Only last month, the world’s most valuable company, Apple (NASDAQ: AAPL), announced a 3-for-1 stock split, leading to a lot of speculation around the likes of Amazon (NASDAQ: AMZN) and Google (NASDAQ: GOOG).
Tesla (NASDAQ: TSLA) became the latest company to announce a split, which will be 5-for-1 after the company has more than tripled in value this year, up 228% YTD. However, many investors might be unaware of what exactly a stock split is, so here’s a very basic explanation:
When a stock splits, the individual share price goes down and the number of outstanding shares goes up.
- If a company splits 5-for-1, like Tesla, 100 shares at $1,400 apiece become 500 shares at $240.
- You still own the same stake in the company, there are just more outstanding shares available now.
- For a more in-depth rundown, my colleague Mike has written a complete article about stock splits.
So, why did Tesla do this?
Sticking with Mike, he also predicted back in February that Tesla would not perform a stock split for some time, just showing how a few pandemic-filled months can change the market completely.
The most obvious reason for this is that, after more than tripling in value in 2020, Tesla wishes to make its individual shares more ‘affordable’ to retail investors. In my opinion though, the real reason is that it gives Elon Musk another chance to see his company’s share price hit $420 — we all know his affiliation with this infamous number.
The electric vehicle maker is on a monster run and its Q2 results blew analysts out of the water to post a fourth consecutive profit, leaving it on the cusp of S&P 500 (NYSEARCA: VOO) inclusion. Tesla’s addition would mean that investment funds that track the market index would buy the stock, potentially driving its price even higher as we’ve seen with other additions.
It is also one of the few pure-play’s in the EV market, with the likes of Ford (NYSE: F) and General Motors (NYSE: GM) struggling right now, and other pure-plays like NIO (NYSE: NIO) and Nikola (NASDAQ: NKLA) simply not matching up. All this points to further growth, with the stock likely to have hit $2000 per share by the end of the year.
Instead of allowing its price to get this high, the company can now appear more accessible to retail investors, while it is also significantly easier to move full shares between brokerages rather than fractional ones.
Does it matter to Tesla investors?
To be a complete pain in the rear, the answer is both yes and no.
As stated before, the company’s value and the stake you currently own in it are not affected in any way. The lower stock price simply means that there are more shares outstanding and not that the company has a better or worse valuation. There are actually many that believe that stock splits are a zero-sum game in terms of relevance, but in a modern society where retail investing now makes up 25% of all trades, I disagree.
However, that’s not to say that there won’t be some effects.
A stock split can have an impact on intrinsic value if it allows the company to increase the investor base and thereby increase demand for the stock, which allows it a lower cost of capital. In other words, this stock split plays right into the hands of Robinhood-esque traders, of which Tesla is regularly in its most traded stocks.
This view that the stock is ‘more affordable’ will likely cause a short-term bump to Tesla stock — it’s already up 6% pre-market — which could be a further catalyst for the cult-like following of Elon Musk and Tesla to drive its price even higher.
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