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Canada’s Shopify is the latest tech company to announce stock split plans, proposing a 10-for-one split of its class A and class B shares.Justin Tang/The Canadian Press

What is a stock split?

A stock split is when a company decides to lower the price of its stock and increase the number of outstanding shares. In the case of a 2-for-1 stock split, for example, the number of outstanding shares would double and the share price would be cut in half. So, a company that had 1 million shares trading at $50 each prior to a split would have 2 million shares trading at $25 each after a split. But a split can be 3-for-1, 4-for-1 or any other ratio.

Does the value of the shares change?

No. An investor’s ownership slice of a company will remain the same – as will the value of the company. In the above example of a 2-for-1 split, the company’s market capitalization (or the combined value of the outstanding shares) was $50-million before the split: $50 times 1 million shares. After the split, the value of the company is still $50-million, though the calculation looks different: $25 times 2 million shares.

So why do I care if a company splits its stock?

In most cases, you probably shouldn’t care because the value of your investment stays the same. However, you might feel pretty good about it anyway. When a company splits its stock, it generally follows a strong run-up in the share price – and management may be sending a signal that it believes the gains are here to stay. As well, if the stock had been enjoying some momentum prior to the split, that momentum may continue. According to Bank of America strategists, split stocks have outperformed the broader market 12 months after the split, on average. Their numbers: 25 per cent gains for the split stock, compared with 9 per cent gains for the market.

Shopify Inc.’s announcement on April 11 that it will split its stock 10-for-one is unusual because the stock had fallen more than 60 per cent prior to the news.

Why does a company decide to split its stock?

In days before discount brokerages and online trading, stock splits made sense. That’s because investors were often limited to buying stocks in so-called board lots, or trades in increments of 100 shares. If a stock traded at a high nominal price, small investors might not be able to participate. Today, splits make less sense because small investors can easily buy a single share. Still, some analysts believe that small investors may be drawn to lower-priced stocks. It might feel more satisfying to buy 50 or 100 shares than, say, 2 or 4 shares. In some cases, a lower-priced stock might also gain admission into prestigious stock indexes, like the Dow Jones Industrial Average, where stocks are weighted by price and high-priced stocks are generally out of bounds.

Has the frequency of stock splits been falling?

Yes. Stock splits were all the rage until about 20 years ago, and then began to fade. According to Birinyi Associates, there were on average 58 stock splits per year in the 1990s, among companies in the S&P 500. In the 2010s, the average fell to just 8 splits per year. As a result of fewer splits, the average share price within the S&P 500 is now just shy of US$200, up from US$34.25 in 1990.

Why does a 20-for-1 stock split – recently announced by Amazon and Google-parent Alphabet – get so much attention?

Mostly, it’s a big change in their nominal share prices. Amazon’s shares traded at about US$3,200 in early April. After the split, that would translate to US$160. Some analysts believe that the moves by these two technology heavyweights could influence a resurgence in stock splits.

Have some companies never split their stocks?

Yes. The most famous case is Berkshire Hathaway , the company run by the legendary investor Warren Buffett. The company’s original “A” shares traded at a high of US$544,000 in late March (it’s newer “B” shares, issued in 1996, are lower, at US$362 in late March). Mr. Buffett has long argued that having an expensive stock encouraged investors to remain with the company long-term and discouraged short-term traders. It also makes it easier to measure the stock’s progress from just US$7.50 in 1962.

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