Overview and Key Features of Reverse Stock Splits

Companies that contemplate a reverse stock split are often looking for ways to boost the company’s share price. A reverse stock split involves a reclassification of the company’s outstanding shares into a smaller number of shares based on a stock split ratio.

 

A company’s board of directors and leadership team should take into consideration alternative strategies for increasing the company’s share price before going down the reverse stock split path. A reverse stock split involves a number of steps and will not necessarily result in an increased share price being achieved or maintained in the future.

 

In a reverse stock, the company’s outstanding shares are reclassified and combined into a smaller number of shares. For example, a 1-for-8 reverse stock split ratio would result in every eight shares of common stock being reclassified into one share of common stock. This would also result in the post-split share price initially increasing by 8x. The reverse stock split would affect all shareholders uniformly. The post-split shares would trade under a new nine-digit identification number, called a CUSIP. CUSIP stands for Committee on Uniform Securities Identification Procedures.

 

In some cases, a company may be doing a reverse stock split in order to prevent its shares from being delisted from a stock exchange. Both the New York Stock Exchange (NYSE) and Nasdaq require companies to maintain a share price above $1.00 per share. If a company’s shares trade below $1.00 per share for 30 consecutive trading days, the company will receive a deficiency letter from the applicable stock exchange. The company will then have 180 days to correct the deficiency. A reverse stock split is a potential way to increase the company’s share price and thereby cure the deficiency.

 

If a company has a low number of outstanding shares to begin with, a reverse stock split would result in even fewer shares outstanding afterwards. This can be problematic if the public float is too low following a reverse stock split. Public float refers to the number of outstanding shares of common stock available for trading by public investors. A lack of public float can impede trading activity and make it difficult to attract new investors, which could result in a future decline in the share price.

 

A reverse stock split is subject to anti-dilution adjustments for convertible securities, such as warrants and stock options. Companies will also need to keep in mind how the shares in connection with employee benefit plans and other equity awards will be impacted by the reverse stock split.  

 

To effectuate a reverse stock split, a company’s board of directors will first need to meet to approve an amendment to the company’s organizational documents and to call a special meeting of shareholders. Specifically, a reverse stock split typically requires an amendment to the company’s certificate of incorporation to be adopted. Such an amendment usually requires shareholder approval.

 

The company will also have to file a proxy statement with the Securities and Exchange Commission (SEC). In addition, a proxy solicitor will have to conduct a broker search to determine the shareholder population allowed to vote on the reverse stock split proposal. The approval threshold needed for a reverse stock split proposal is typically the majority of the outstanding shares.

 

If a company is interested in effecting a reverse stock split, it should plan ahead. The entire process can take a couple months. It also requires coordination among a number of parties, including legal counsel, the board of directors, management, the company’s transfer agent, and other external advisors.