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What Impact Do Stock Splits Have on a Total Stockholder's Equity?

Original post by Dennis Hartman of Demand Media

Stock splits are common when growing companies see their stock price steadily rise. A company's board of directors can choose to perform a split, which increases the number of outstanding shares by a set ratio, such as 2-for-1 or 3-for-2. The result is that each stockholder has a greater number of shares, although each with a lower market value. Total stockholders' equity is unchanged due to the way a business accounts for equity.

Calculating Equity

Stockholders' equity, also known as owners' equity, is a measurement of how much a business is worth to its owners. It appears on the corporate balance sheet, and can be found using the simple equation of assets minus liabilities. The difference between the value of a company's assets, or possessions of value, and its liabilities, or money it owes, is the equity that the owners all share. Dividing equity by the number of shares of stock gives you the equity per share. This is a measure of a company's value, but not the same as the market price, which accounts for expected future performance.

Impact of Stock Splits

Stock splits do not involve the creation or issuance of any new shares of stock. Likewise, they don't consume any resources of present new liabilities. Therefore, stock splits have no net impact on total shareholders' equity. They also don't directly change the total value of the stock that an individual owns, only the number of shares. A stock split can have a minimal impact on share price indirectly, or is the split is in response to another factor that also impacts the perceived value of the company.

Dividends

Stock splits and total stockholders' equity are tied together in indirect ways. One instance is in the case of a cash dividend. Companies pay dividends on a per-share basis, therefore stock splits are sometimes accompanied by dividend cuts. But if they are not, each stockholder stands to earn twice as much cash or new stock as a dividend payment. Since companies pay for the dividends they issue out of their retained earnings, any increase in dividends following a stock split causes a decrease in total stockholder equity, and equity per share.

Considerations

Changes in equity can only come from changes in the value of a company's assets or its liabilities. Stock splits, while they may be strategic acts intended to drive up value over time, do not immediately inject value into a business by eliminating liabilities of generating assets. If a company enacts a stock split to make its share prices appear more affordable to small investors, the increase in demand can drive up share prices and benefit all current stockholders.

                   

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About the Author

Dennis Hartman is a freelance writer living in California. His work covers a wide variety of topics and has been published nationally in print as well as online. Hartman holds a Bachelor of Fine Arts from Syracuse University and a Master of Arts from the State University of New York at Buffalo.

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