Stock Splits Explained: How They Work

A stock split changes how many shares you own and the price per share, but not the total value of your investment. Understanding how stock splits work can help you interpret market activity, evaluate investment decisions, and avoid common misconceptions about whether a lower share price makes a stock more attractive.

What Is a Stock Split?

Imagine selling slices of a large pizza. You can cut it into four even slices and charge $2 a slice. Or, you can cut it into eight even slices and charge $1 per slice. Either way, the total value of the pizza will still be $8.

That’s what happens when a stock splits. Let’s say a stock’s market price is $100. With a 2-for-1 split, each current owner receives one additional share for each share he owns. Now, each share is worth $50. If you had one share to start, you now have two, but the total value of the investment remains $100.

A stock split differs from when a company decides to issue new shares, wherein new shares flooding the market can dilute the value of existing shares. With a stock split, the value of existing shares do not decrease. The total market value of a shareholder’s holdings will remain the same. A stock split does not change the company’s market capitalization or fundamental value—it only adjusts the number of shares and price per share.

Types of Stock Splits

Forward Stock Splits

There are different forms of stock splits, such as the 2-for-1, 3-for-1 or 3-for-2 stock split. They all work the same way: You get two shares for every one you hold, or three shares for every one you hold, or three shares for every two shares you own.

Reverse Stock Splits

Another, less common form is called the reverse stock split. This is when a company decides to reduce the number of outstanding shares, which in turn will increase the stock price of shares held by stockholders. This strategy is generally used to boost the price of a stock that has lost value over time. Companies often use reverse stock splits to maintain exchange listing requirements or improve the perception of a very low stock price.

It is important to recognize that the stock split is a simple strategy designed to affect the stock price. It in no way changes the company’s market capitalization (i.e., total value of all outstanding shares) or other fundamental metrics. In order to issue a stock split, it must be approved by both company management and the board of directors. Furthermore, the company must publicly announce its intention to conduct a stock split within days or weeks of implementation.

The timing of the announcement is important because some investors try to take advantage of a stock split, believing that the value of the stock will increase as a result. This has more to do with market sentiment than any change in company fundamentals.

For example, in the past when a stock split its value often returned to its pre-split price within a year. This is not necessarily because the company has improved fundamentals, but rather because the investor market simply believes that stock is worth that price — it’s a form of confirmation bias. However, in recent years it is not as common for split stocks to climb back to their original price as it was in the past.

Why Companies Do Stock Splits

Companies typically conduct stock splits to make shares more accessible to investors and to influence market perception. For example, some investors may not have a lot of discretionary income to invest, so they look for a lower-priced stock. While they might not consider a stock valued at $100 per share, they may be interested in the company at $50 a share. In fact, following a recent stock split, investors may see it as getting a bargain price for that stock. As such, they might buy two shares. Now they’ve spent $100 on two shares whereas they were reluctant to buy one share for $100. The value is the same, but psychologically, that stock now seems like a great buy. This is referred to as unit bias. Psychologically, most people perceive lower per share prices to mean that a stock is “cheaper” and therefore may have more room to make gains. This perception does not change the underlying value of the company, but it can influence demand in the short term.

In addition, now they can further diversify their portfolio with different stocks, whereas before those high-priced shares may have dominated their portfolios, exposing them to greater market risk.

How Stock Splits Affect Investors

While a stock split increases the number of shares you own, it does not create value on its own—future gains depend entirely on the stock’s performance after the split. Here’s a simple example of how a stock split affects share count, price, and total value:

As shown above, the total value remains the same immediately after the split—only future price changes impact the value of the investment.

It’s also important to track your adjusted cost basis after a split, as this can affect tax reporting when shares are eventually sold.

A stock split also gives current shareholders more shares at a lower price per share. While the value hasn’t changed at the time of the split, if the stock increases in the future their portfolio will increase in value because they have more shares of that stock. For example, let’s say you have 10 shares of a stock priced at $10, for a total value of $100. The stock splits 2-for-1, so now you have 20 shares priced at $5, still valued at $100. In a few years, the stock price grows to $20 per share. Had the stock not split, your total value would grow to $200. But because you now own 20 shares, the total value of those shares would grow to $400.

Clearly, the true value of a stock split comes from holding those shares until the price increases substantially.

Mutual Fund Split

Some mutual funds also engage in the split strategy, but instead of splitting an individual stock the fund company issues additional shares of the fund at the reduced price. In all other ways, a mutual fund share split works like an individual stock split. Like stock splits, mutual fund splits do not change the total value of your investment—they simply adjust the share count and price.

How to Look Up Stock Split History

If you’d like to learn the history of a company’s stock splits, consider the following resources:

• Click on the investor relations tab at the company website, which often provides a history of the company, including dates of past stock split activity.
• Search by the ticker symbol at stocksplithistory.com or Morningstar.com.
• Another option for both stocks and mutual funds is to search by stock symbol at Yahoofinance.com. On the stock’s performance chart, look for the Events tab and check the Stock Splits option. You may need to reduce the historical time frame to see splits marked clearly.
• You also may be able to search for stock split history at the website of your online broker. Many outfits offer these types of research tools.

Understanding how stock splits work is important, but knowing how they fit into your broader financial and tax strategy is even more critical. Investment activity, even when it doesn’t trigger immediate taxes, can still have long-term implications for planning and reporting.

LBMC’s tax professionals can help you evaluate how investment activity, including stock splits, impacts your tax planning and long-term goals. Contact our team to start a conversation.

LBMC tax tips are provided as an informational and educational service for clients and friends of the firm. The communication is high-level and should not be considered as legal or tax advice to take any specific action. Individuals should consult with their personal tax or legal advisors before making any tax or legal-related decisions. In addition, the information and data presented are based on sources believed to be reliable, but we do not guarantee their accuracy or completeness. The information is current as of the date indicated and is subject to change without notice.