A stock split is viewed as a positive event for a company. The declaration of a split by the board of directors shows a belief in a continuing increase in the value of the company's shares. A stock split can make shares more affordable, possibly making the shares more attractive to a wider range of investors, increasing the stock market demand for the stock.
Stock Split Function
A stock split is declared with a ratio of new shares that you can exchange for existing shares. Typical split ratios are 2 for 1, 3 for 2 or 3 for 1. Investors will receive new shares in the amount of the ratio on the day the split is effective. For example, an investor owns 100 shares of a stock being split 3 for 1 will have her shares exchanged for 300 new shares on the day of the split. For most investors, the share amount change happens electronically in their brokerage account.
Effects on Share Price
When a stock split takes effect, the share price of the stock is adjusted by the inverse of the split ratio. If the share price was $60 before the 3 for 1 split, the stock will start trading at $20 per share after the split is completed. The purpose of a stock split is to bring the share price down to a range where the board of directors believes it will be more attractive to investors.
Before and After Results
The value of a company's shares remain the same before and after a stock split. The investor that owned 100 shares worth $60 before the split owns 300 shares at $20 each after the split. The value of the investment remained at $6,000. If the stock pays a dividend, the amount of dividend will also be reduced by the ratio of the split. There is no investment value advantage to buy shares before or after a stock split.
When to Buy the Shares
Other considerations may affect whether it is better to buy shares on one side of the split or the other. If the shares have become very expensive, an investor may be more comfortable buying lower cost shares post split. Stock splits are viewed as a positive event and an investor who buys before the split may see a stock price increase after the split due to more investors buying the stock.
Tim Plaehn has been writing financial, investment and trading articles and blogs since 2007. His work has appeared online at Seeking Alpha, Marketwatch.com and various other websites. Plaehn has a bachelor's degree in mathematics from the U.S. Air Force Academy.