Earlier last week, Tesla announced that it would split its stock for the second time in two years. It’s not yet official, but the stock split will lower Tesla’s share price and more shares will be traded. The proposal won’t meet much resistance, but shareholder approval will be required before the company issues dividends to facilitate the spin-off.
The announcement comes shortly after Amazon and Google announced their stock split. Amazon and Google split the stock from 20 to 1 (June 3 and July 1, respectively). Now GameStop has followed suit. We don’t yet know what Tesla’s split ratio or when it’s going to happen. However, if the date is indicated, it could happen right after the annual shareholder meeting, which is expected in early June.
Tesla splits for second time in two years. This is not uncommon. The closest comparison might be Microsoft’s series of smaller splits during the 1990s and three Amazon splits during 1998 and 1999. However, this series has a smaller division compared to the previous Tesla division. The split announcement coincided with the opening of new factories in Berlin, Germany and Austin, Texas.
Below we will explain what a stock split is, how it affects investors, its stock price, and why a company might be interested in pursuing a stock split.
What is a stock split?
Stock splitters divide existing stocks into smaller, more accessible parts. This leads to an increase in the total number of shares and a fall in the share price. You can imagine sharing a stock when someone is cutting a fresh pizza. Sliced pizza doesn’t fundamentally change anything, it just makes it easier to share and eat pizza.
In other words, consider a 5:1 stock split when the stock price is $1,000. If you own one share of the company, $1,000 on the day of the stock split turns into five shares of $200.
How do stock splits affect options?
Options are affected in the same way as stocks, assuming they expire after the split date. For example, if you have a strike call of $1,000 and a 5:1 split is announced, there are 5 strike calls at $200. This scenario gives you more flexibility in your selection of events or sales.
Why do companies split stocks?
A company may issue stock splits for several strategic reasons. Often, companies expect significant growth and want to hold their stock at a price accessible to individual investors. In addition, employees who receive inventory-based compensation have easier access to inventory, as they do at Tesla. Tesla’s stock has risen 80% in the past 12 months, and the stock has exceeded many investment budgets.
There may be other strategic goals as well. For example, the Dow Jones Industrial Average or Dow is a well-known stock index that weights price. Stock prices are a component that is considered for inclusion in the Dow Jones Indices because they directly affect the weight of this index. A company with a high share price may not be approved if it significantly interferes with the weighting.
A stock split should not be confused with a “public offering” of stocks. The public offering is for a company to issue new shares for sale to the general public to raise funds to support its business.
Does a stock split increase the stock price?
Basically, a stock split should not affect the stock price. According to Reuters, a Bank of America study found that companies that split their stock 12 months after the spin-off outperformed others by about 16%, but that didn’t really change anything.
However, this may be an indirect connection and may relate in part or in whole to the growth of the Company and other factors. A stock split usually indicates that the company is growing and trusting. However, people who trade stocks and options often trade using a split environment, which can cause a lot of volatility in the market before and after the split.
How is Tesla stock split?
This stock split requires Tesla and its shareholders to take a few more steps than when the Board of Directors simply announced the decision on August 11, 2020 and soon announced the stock split on August 31, 2020.
There is an upper limit for listed companies with respect to the number of permitted shares to be traded as imposed by the Securities and Exchange Commission. Tesla is approaching its limits since its last split and public offering (December 2020) and only has the bandwidth to issue a 2:1 split under current conditions without shareholder approval. This indicates that Tesla plans to announce a higher multiplier.
After that, the board will vote to approve the stock split, which will be announced soon. The split is completed by paying dividends to the shareholders. For example, if the split is 5:1, an additional 4 shares will be issued for every share held by the expiry date on the day of the split. It is important to note that this is a one-time dividend as opposed to the recurring cash dividend that many investors are aware of.