Stock Splits

What is a stock split?

When a company declares a stock split, the price of the stock will decrease, but the number of shares will increase proportionately. For example, if you own 100 shares of a company that trades at $100 a share and it declares a two for one stock split, you will own a total of 200 shares at $50 a share after the split. A stock split has no effect on the value of what shareholders own. If the company pays a dividend, your dividends paid per share will also fall proportionately.

Companies often split their stock when they believe the price of their stock exceeds the amount smaller individual investors would be willing to pay for the stock. By reducing the price of the stock, companies try to make their stock more affordable to these investors.

Although many stock splits are two for one, companies can split their stock in any number of ways, including three for one, three for two, and so forth. A stock that has split in the last 52 weeks will be identified in newspaper stock columns with an "S" next to the company's name. (Source: SEC)

Stock split refers to a corporate action that increases the number of shares in a public company. The price of the shares are adjusted such that the before and after market capitalization of the company remains the same and dilution does not occur. Options and warrants are included.

For example, a company has 100 shares of stock each with a price of $50. The market capitalization is 100 × $50 = $5000. The company splits its stock "2-for-1". There are now 200 shares of stock and each shareholder holds twice as many shares. The price of each share has been adjusted to $25. The market capitalization is 200 × $25 = $5000, the same as before the split.

Ratios of 2-for-1, 3-for-1, and 3-for-2 splits are the most common but any ratio is possible. Splits of 4-for-3, 5-for-2, and 5-for-4 are not unheard of. Sometimes investors will receive cash payments in lieu of fractional shares.

It is often claimed that stock splits, in and of themselves, lead to higher stock prices; however, research does not bear this out. What is true is that stock splits are usually initiated after a large run up in share price. Momentum investing would suggest that such a trend would continue regardless of the stock split.

Other effects could be psychological. If many investors think that a stock split will result in an increased share price and therefore purchase the stock, the share price will tend to increase. Others contend that the management of a company, by initiating a stock split, is implicitly conveying its confidence in the future prospects of the company.

In a market where there is a high minimum number of shares, or a penalty for trading in so-called odd lots (a non multiple of some arbitrary number of shares), a reduced share price may attract more attention from small investors. Small investors such as these, however, will have negligible impact on the overall price. (Source: Wikipedia)

See also:
Reverse Stock Split

Reverse Stock Split

What is a reverse stock split?

A reverse stock split reduces the number of shares and increases the share price proportionately. For example, if you own 10,000 shares of a company and it declares a one for ten reverse split, you will own a total of 1,000 shares after the split. A reverse stock split has no affect on the value of what shareholders own. Companies often split their stock when they believe the price of their stock is too low to attract investors to buy their stock. Some reverse stock splits cause small shareholders to be "cashed out" so that they no longer own the company’s shares.

A company’s board of directors may declare a reverse stock split without shareholder approval. Although the SEC has authority over a broad range of corporate activity, state corporate law and a company’s articles of incorporation and by-laws govern reverse stock splits.

If a company is required to file reports with the SEC, it may notify its shareholders of a reverse stock split on Forms 8-K, 10-Q and 10-K. (Source: SEC)

Reverse stock split, or reverse split, is a reduction in the number of a company's shares and an accompanying increase in the share price. The ratio is also reversed: 1-for-2, or 1-for-3.

There is a stigma attached to doing this so it is not initiated without very good reason. For example, many institutional investors or mutual funds have rules against purchasing a stock whose price is below some minimum, perhaps $5. An extreme case would be when a share price has dropped so low that it is in danger of being delisted from its stock exchange.

It is also possible that a reverse stock split could be used as a tactic to reduce the number of shareholders. In a hypothetical 1-for-100 reverse split any investor holding less than 100 shares would simply receive a cash payment and no shares of stock. If the resulting number of shareholders has then dropped below some threshold, it may be placed into a different regulatory category.

Typically, the stock will temporarily add a "D" to the end of its ticker during a reverse stock split. (Source: Wikipedia)

See also:
Stock Splits

Pink Sheets

What are the Pink Sheets?

The "Pink Sheets" is an electronic quotation system that displays quotes from broker dealers for many over-the-counter (OTC) securities. "Market makers" and other brokers who buy and sell OTC securities, can use the Pink Sheets to publish their bid and ask quotation prices. The name "Pink Sheets" comes from the color of paper they were historically printed on. They are published today by Pink Sheets LLC, a privately owned company. Pink Sheets LLC is not registered with the SEC in any way and it is not an NASD Broker-Dealer.

The Pink Sheets does not require companies whose securities are quoted upon its systems to meet any listing requirements. With the exception of a few foreign issuers, the companies quoted in the Pink Sheets tend to be closely held, extremely small and/or thinly traded. Most do not meet the minimum listing requirements for trading on a national securities exchange, such as the New York Stock Exchange or the Nasdaq Stock Market. Many of these companies do not file periodic reports or audited financial statements with the SEC, making it very difficult for investors to find reliable, unbiased information about those companies. For all of these reasons, companies quoted in the Pink Sheets can be among the most risky investments. That's why you should take extra care to thoroughly research any company quoted exclusively in the Pink Sheets. Be aware that some broker-dealers are required by Rule 15c2-11 under the 1934 Act to have some information about the issuer. Ask your broker-dealer whether it has any Rule 15c2-11 information before you invest. (Source: SEC)

Pink Sheets is an electronic system, published by Pink Sheets LLC, to display bid and ask quotation prices of securities. The name "Pink Sheets" stems itself from an earlier paper-based system, which was printed on pink paper. It is mainly used by stock brokers trading OTC securities in the United States.

Pink Sheets LLC is neither an NASD broker-dealer, nor registered with the U.S. Securities and Exchange Commission; it is not a stock exchange, the companies listed do not need to fulfill any requirements (e.g. filing financial statements with the SEC). With the exception of a few foreign issuers (mostly represented by American Depositary Receipts, or ADRs), the companies quoted in the Pink Sheets tend to be closely held, extremely small and/or thinly traded. Most do not meet the minimum listing requirements for trading on a national securities exchange, such as the New York Stock Exchange or the NASDAQ. Many of these companies do not file periodic reports or audited financial statements with the SEC, making it very difficult for investors to find reliable, unbiased information about those companies.

For these reasons, the SEC sees companies listed on Pink Sheets as "among the most risky investments" and advises potential investors to heavily research the companies in which they plan to invest.

For issuers, the appeal of the Pink Sheets in recent years has been that the issuer has relatively low "clearance" overhead, and can potentially have their stock listed on the NASD's OTCBB with a ".P" suffix.

Buying Pink Sheets shares is supposed to be difficult; broker-dealers are enjoined to weed-out "widows and orphans" who may get an e-mail or word-of-mouth tip about a small stock. Many Pink Sheets stocks may only be registered for sale in one state, so that the only way to purchase the stock is to make a DRIP/business/unsolicited/accredited or other sophisticated form of investment. Many registered representatives do not even know how or if they can sell them. (Source: Wikipedia)

Penny Stocks

What are penny stocks?

The term “penny stock” generally refers to low-priced (below $5), speculative securities of very small companies. While penny stocks generally trade over-the-counter, such as on the OTC Bulletin Board or in the Pink Sheets, they may also trade on securities exchanges, including foreign securities exchanges. In addition, penny stocks include the securities of certain private companies with no active trading market.

Before a broker-dealer can sell a penny stock, SEC rules require the firm to first approve the customer for the transaction and receive from the customer a written agreement to the transaction. The firm must furnish the customer a document describing the risks of investing in penny stocks. The firm must tell the customer the current market quotation, if any, for the penny stock and the compensation the firm and its broker will receive for the trade. Finally, the firm must send monthly account statements showing the market value of each penny stock held in the customer’s account.

Penny stocks may trade infrequently, which means that it may be difficult to sell penny stock shares once you own them. Because it may be difficult to find quotations for certain penny stocks, they may be impossible to accurately price. Investors in penny stocks should be prepared for the possibility that they may lose their whole investment. (Source: SEC)

Penny stocks are common stocks that trade for less than $5 a share. In the U.S. financial markets, the term penny stock commonly refers to any stock trading outside one of the major exchanges (NYSE, NASDAQ, or AMEX), and is often considered pejorative. However, the official Securities & Exchange Commission definition of a penny stock is a low-priced, speculative security of a very small company, regardless of market capitalization or whether it trades on a securitized exchange (like NYSE or NASDAQ) or an "over the counter" listing service, such as the OTCBB or Pink Sheets. The terms penny stocks, microcap stocks, small caps, and nano caps are also all sometimes used interchangeably, however per the SEC definition, penny stock status is determined by share price, not market capitalization or listing service.

In the UK markets, penny stocks, or penny shares as they are more commonly called, generally refer to stocks and shares in small cap companies, defined as being companies with a market capitalization of less than £100 million and/or a share price of less than £1 with a bid/offer spread greater than 10%. In the UK Penny Shares are covered by a standard regulatory risk warning issued by the Financial Services Authority (FSA).

Penny stocks generally have market caps under $500M and are considered extremely speculative, particularly those that trade on low volumes over the counter. The Securities and Exchange Commission warns that, "Penny stocks may trade infrequently, which means that it may be difficult to sell penny stock shares once you own them. Because it may be difficult to find quotations for certain penny stocks, they may be impossible to accurately price. Investors in penny stocks should be prepared for the possibility that they may lose their whole investment."

Many new investors are lured to the appeal of penny stocks due to the low price and potential for rapid gains which may be as high as several hundred percent in a few days. Similarly, severe drops also occur and many penny stocks lose all of their value in the long term. Accordingly, the SEC warns that penny stocks are high risk investments and new investors should be aware of the risks involved. These risks include limited liquidity, lack of financial reporting, and fraud.

In terms of liquidity, since a penny stock has fewer shareholders, it is less 'liquid', meaning it will not trade as many shares per day as a larger company. Any sudden change in demand or supply of stock can lead to a lot of volatility in the stock price. This lack of liquidity can send a stock price soaring up quickly or crashing down quickly. Lack of liquidity and volatility also makes penny stocks much more vulnerable to manipulation by management, market makers, or third parties. A lack of liquidity can also make it extremely difficult to sell a stock, particularly if there are no buyers that day. This can also make the stocks extremely difficult to short.

Secondly, unlike NASDAQ or the NYSE, there are only minimal listing requirements for a stock to remain on the OTCBB, namely that they make their filings with the SEC on time. In fact, companies that fail to meet minimum standards on one of the broader exchanges and are delisted often relist on the OTCBB or the Pink Sheets.

Furthermore, stocks trading on the Pink Sheets (recognizable with a .PK suffix) have little to no regulatory or listing requirements whatsoever, at least compared to major markets. There are no minimum accounting standards, change in notification of ownership of shares, and reported other material changes affecting the financial viability of a company, all of which are designed to protect shareholders.

The SEC notes most the same about Internet message boards, where fraudsters claiming to be unbiased investors who've carefully done their due diligence may in fact be company insiders, and that a single person or a small team can create the appearance of a huge interest in a stock simply by creating a huge number of aliases, while banning the most vocal or perceptive critics of these offerings. (Source: Wikipedia)