STOCK SPLITS IN INDIA

Anubha Vashisht

Assistant Professor, DAV College Sector-10, Chandigarh (India)

ABSTRACT

This paper seeks to examine the main motivations, advantages and limitations of stock splits. Stock Split involves the conversion of one share of higher par value into certain number shares of lower par value in a given ratio. Stock splits have become very common phenomena throughout the world. In India stock splits came into existence after SEBI abolished the par value of shares in 1999, provided the shares are dematerialized and face value after split does not reduce below Re. 1. Since then a number of Indian companies have gone for stock splits. The main motivations for the stock splits are; the signaling effect about the future prospects of the company, to reduce the per share price to make it more liquid, desire of the management to have diffused ownership and to use stock split as a defense to a potential hostile takeover. There are some issues associated with stock splits which must be given due attention before deciding about stock splits. These issues include the cost of the stock splits, impulsive selling of shares due to decline in the market price of the shares triggered by stock splits, risk of lower share prices, listing requirements and record keeping challenges.

I INTRODUCTION

Stock Split is a corporate financial management decision which does not involve any cash flows. It involves the conversion of one share of higher par value into certain number shares of lower par value in a given ratio. Thus stock split involves only an accounting entry in the books of the company concerned without affecting its assets and liabilities.

In the recent times stock splits have become very common phenomena throughout the world. The popularity of the stock splits could be gauged from the fact that the number of stock splits by the companies has been increasing in almost all advanced countries. In India the acceptance of stock splits as a strategic financial management tool can be judged from the fact that more than two dozen companies went for stock splits within one year of the abolition of par-value concept by Securities and Exchange Board of India (SEBI) in 1999. Some prominent companies which have gone for stock splits included Technologies, , Zee Telefilms, HDFC, ACC, Polaris Software, Satyam Computers, Hughes Software, Cummins India, Cybertech International and .

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1.1 Definition of Stock Split

American Institute of Certified Public Accountants (AICPA) has defined stock splits as “any increase in number of shares of a given class without changing of equity amount whereas increase in number of shares accompanied by increase in total value of that class is called as stock dividend”. 1

U.S. Securities and exchange commission defines stock split as “a declaration that has no effect on the value of what shareholders own. When a company declares a stock split, the price of the stock will decrease, but the number of shares will increase proportionately”. 2

1.2 Motivation for Stock Splits

Stock splits do not involve any cash inflow or outflow either from companies or from their shareholders. While the number of shares held by shareholders would increase, the par value of the shares would decrease proportionately. The total par value of the shares held by a shareholder remains the same as before the stock split. Therefore the shareholders, who are concerned with the firm’s cash flows and the portion of cash flows to which they are entitled, are not expected to be influenced by stock split decisions as their position is the same as at previous level even after splitting of stock.

Stock splits do not have any tax advantage or disadvantages to the companies or its shareholders. There is no change in the rights of a shareholder in any way vis-a-vis that of the company. Theoretically there is neither any gain nor any or loss arising to the shareholders on account of stock splits. They continue to hold the same capital asset, but in a modified form. However shareholder might gain on account of increase in the market value of the shares due to increase in the frequency of trading.

Considering the fact that Stock splits do not have any cash flow or tax implications one may wonder as to what are the motivations for the stock splits. One reason for stock splits could be the signaling effect. As per the signaling hypothesis, the declaration of a stock split conveys favorable private information about the future of the company and the earnings to the investors. Managers of a company have superior information about its future earnings. Managers, by declaring stock split, provide favorable signal to the investors regarding their confidence in the company’s future earnings and operations.

The announcement of a stock split by a company can signify that it has attained a certain level of success which is going to be continued in future also. The fact that a company has a record of multiple stock splits usually indicates that the company is among one of the faster growing firms, since their stock has been split numerous times. Companies such as Ltd., Alembic Ltd., Ltd., Crompton Greaves Ltd., Jaipan Industries ltd. are few examples that have split more than once.

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Stock splits are resorted to by a company when its stock price has risen to a very high level and thus becoming out of the popular trading range. It results into reduction in the stock prices. Reduction in stock prices, make them more affordable to small investors. Therefore, a stock split is used to place a stock in a lower, more popular trading range.

Stock splits also result into wider market for the company. As the number of shares increases after stock split, it leads to greater number of transactions leading to a wider market. Through Stock splits, the companies by reducing the par value of their shares make them comparable with other firms in the industry.

Another explanation for stock splits could be the desire of the companies to bring liquidity and stability to their stock prices. These small investors are good for market stability. Companies hold the view that greater liquidity for stocks may arise in lower price range. 3

Desire of the management of a company to have diffused ownership can be another reason for stock splits. Small investors cannot exercise much control over the affairs of a company because of their insignificant shareholding. This can help the management in the retention of control in its own hands and carry on the operations of the company without interference.

Another reason that may motivate a company for splitting its stock could be that stock split can be used as a defense to a potential hostile takeover. Since stock splits results into greater number of shares in circulation thus making their acquisition more difficult.

II INDIAN SCENARIO

In India stock splits came into existence after Securities and Exchange Board of India (SEBI) abolished the par value of shares in 1999, provided the shares are dematerialized and face value after split does not reduce below Re. 1. Prior to that, corporate action relating to existing shares was related to mainly dividends, rights issues and bonus issues. Prior to 1999 there were no stock splits by Indian companies and corporate actions relating to existing shares were related to mainly paying dividends and issuing right and bonus shares.

Initially the Indian companies which resorted to stock splits subdivided the par value of their shares from Rs.100 to 10 shares of Rs. 10 each. However, afterwards some companies issued 10 shares of Re 1 each, or five shares of Rs 2 each, or two shares of Rs 5 each for one share of Rs 10, representing different split factors.

The first company to split its stock in India was Infosys from Rs 10 a share to Rs 5 per share. The idea behind the split was to increase liquidity in the stock, thereby reducing volatility and also making it more affordable to retail investors. Prior to the split in Infosys, the scrip had touched a high of Rs 17,000 per share during the boom phase in the market during 2000. The action of Infosys was followed by ACC, WIPRO, Zee and others. ACC split its shares

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from Rs 100 a share to Rs 10 per share. Zee and Wipro split their shares to bring down their face value to Re 1 and Rs 2 per share respectively after split. 4

Table 1.1: A Few initial Stock Splits in India along with split ratio

Split Ratio Company

ACC 10:1

HDFC 10:1

HLL 10:1

Hughes Software 2:1

Infosys 2:1

Polaris 2:1

Satyam 5:1

Sonata Software 10:1

Wipro 5:1

Zee 10:1

Source: Pooja ,“Financial Implications of Stock Splits”, Unpublished Ph.D Thesis,2011 Panjab University Chandigarh .

Some companies including Pfizer Ltd., Alembic Ltd., Cipla Ltd., Crompton Greaves Ltd., Jaipan Industries Ltd. had a record of multiple stock splits. While splitting was in accordance with the provisions of the SEBI circular, it was observed that frequent splitting of shares within a short span of time had created various problems. 5 Some of these problems can be summarized as below

 Stock splits created confusion amongst the investors as to whether the market price of the shares is based on the pre-split or post-split par value.

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 It became difficult to analyze and compare the movement of share prices of companies resorting to stock splits vis-à-vis those of other companies in similar industry.  Since dividend is declared as a percentage of the face value of the shares of the company, frequent changes of the value of the shares by way of split resulted in confusion among the investors regarding dividend rate.  It also created confusion in the calculation of rate of return earned on the company.

Table 1.1 shows stock split activity during 1999-2015. Prior to 1999, Indian companies would subdivide the par value per share from Rs.100 to Rs. 10 and considered it as a stock split.

Table 1.1: Number of Stock Splits during 1999-2015

YEAR No. of Stock Splits Before 1999 65 1999 04 2000 32 2001 29 2002 29 2003 35 2004 33 2005 148 2006 80 2007 34 2008 89 2009 71 2010 120 2011 83 2012 60 2013 69 2014 73 2015 52* Total 1106 * Up to August 2015 Source: Compiled from Prowess Database

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2.1 PROVISIONS LAID DOWN BY SEBI FOR STOCK SPLITS

In 1999, SEBI (vide circular No. SMDRP/Policy/Cir-16/99 dated June 14, 1999) modified the Central Govt. circular no. 1/7/SE/81 dated January 22, 1983, and provided for the following 6:

 The companies given the freedom to issue the shares in any denomination to be determined by them in accordance with section 13(4) of the Companies Act, 1956. However, these shares would not be issued in decimal of a rupee.  The companies, which seek to change the standard denomination, may do so after amending the Memorandum and Articles of Association.  The existing companies which have issued Rs. 10/- or Rs. 100/- may also change the standard denomination into any denomination other than decimal of a rupee by splitting or consolidating the existing shares after amending their Memorandum and Articles of Association.  At any given time there shall be only one denomination for the shares of the company.  Only those companies whose shares are dematerialized shall be eligible to alter the standard denomination.  The company shall adhere to the disclosure and accounting norms specified by SEBI from time to time.

Thus, any listed company in India, for the purpose of splitting of its shares, has to fulfill all the above-mentioned provisions laid down in SEBI Guidelines, 2000.

III WHY COMPANY GOES FOR STOCK SPLITS?

The main motive behind stock splits is to maximize shareholders wealth. There have been numerous empirical studies covering diverse aspects of a stock split. The splitting company’s stock price has been seen to react differently through the stages of the split life-cycle, starting from the event announcement date to the record date, and even beyond. Scholars believe that stock split announcements are a signal of the management’s optimism about the company’s future earnings; firms use the positive reaction to the split announcement to raise more funds at a higher price after the split and can boost liquidity 7.

1) Availability and Affordability Stock splits allow a wider number of people to own shares. Each share has half the value it did before the stock splits. Someone who would not buy a share that cost more might buy a share after split. therefpore the universe of potential buyers of shares of a company will increase as shares are now affordable to investors. 2) Psychological Effect

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Stock splits help the companies to keep prices of its shares in comfortable zone. It gives existing shareholders the feeling that they have more shares on account of stock split than they did before, and of course, if the price rises, they have more shares to trade. The lower share price may also be used to attract new investors. 3) Increases Liquidity Stock splits also increases the liquidity for sharres of the company because after stock split number of shares which are there in open market increases and It leads to better price discovery because liquidity plays a key role when it comes to discovery of correct price in market. 4) Performance Indicator The announcement of a stock split can be a positive indicator that the stock has attained a certain level of success. The fact that a company has a record of multiple stock splits usually signifies that the company is among one of the faster growing firms, since their stock has been split numerous times. 5) Increase in Market Price of Shares A stock split is often seen as a positive indicator that a company is growing. Companies that split their stocks have typically enjoyed a big jump in share prices. However, just because a company declares a stock split, it does not mean that the stock price will inevitably rise in reaction. There are many other variables that influence investor’s decisions in the result of a stock split including economic reports, market stability, earnings, interest rates, external conflicts, etc.

IV LIMITATIONS OF STOCK SPLITS 1) Costly affairs Stock split is not a cost free activity for the company. It involves heavy expenditure for meeting legal and listing exchange requirement after stock split. Written notification letters and mailing them out to all shareholders about date and effects of stock splits becomes costly for companies with a large number of shareholders. 2) Impulsive selling of share Stock splits may lead to impulsive selling of shares signaling poor financial state of the company. As share decline on account of stock splits, investors may perceive the value of shares being on the declining path. They also tend to associate a lower price with unsuccessful company management and bleak future prospects. Once share prices drop after a split, more impulsive selling may take place which can show the company in poor light. 3) Risk of Low share Prices Normally, companies announce their split decision when they are performing better and share price is on the rise. However, an overly aggressive split may lead to some risks if the share price falls too much going forward. If the economy and company fall on hard times, the share price also drops. This can make share less attractive to large investors. 4) Listing Requirements

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To be listed on a stock exchange stocks must maintain a certain minimum price per share. If a company splits its stock and then value of company itself falls, the shares may fall below this requirement and can be delisted from stock exchange. 5) Record-keeping Challenges Stock splits create record-keeping challenges for company accountants, analysts and shareholders. When you split a stock, the chart would naturally reflect the quick drop in share price. This doesn't offer a fair valuation of company stock. Advanced software tools make it easier for companies and investors to show split results on charts.

V MAJOR STOCK SPLITS IN INDIA

 In year 2014,State had split the face value of its shares from Rs 10 to Rs 1 in 2014.The share has been quoting on an ex-split basis from November 20, 2014.  , Tata Coffee, Corporation Bank and are among notable stocks that declined 6%-34% after sub-division of shares. TechM split its shares at Rs 2,890, Tata Coffee at Rs 1,023 and Bank and Bank of Baroda at Rs 899 in 2014.  , Granules India, JMT Auto, Rollatainers and Rasi Electrodes are some shares that have rallied more than 20% post stock split in 2014.  In 2014, Signet Industries also sub-divided the equity shares in the ratio of 10:1 i.e. ten equity shares of Re 1 each for every one equity share of Rs 10 each held. This company has zoomed nearly 200% thus far in 2015 from Rs 12.85 to Rs 38 (adjusted to stock split) on the BSE.  shares jumped as much as 6 per cent after the company announced a stock split in 2014. Company’s consolidated net profit increased 47 per cent annually to Rs 353 crore, while its revenues registered an annual growth of 22 per cent to Rs 2,501 crores.  Cadila Healthcare and Associated Stone Industries (Kotah) sub-divided equity shares of their companies from Rs 5 to Rs 1in year 2014. Natco Pharma split the face value of its equity shares from Rs 10 to Rs 2, Sarla Performance Fibres from Rs 10 to Re 1 and Shilpa Medicare from Rs 2 into Re 1.  In year 2015, five companies - Cadila Healthcare, Natco Pharma and Shilpa Medicare –and Sarla Performance Fibers and Associate Stone Industries (Kotah) resorted to stock split as their equity shares as were quoting at multi-year highs.  50 companies including Bata India, Natco Pharma and Titagarh Wagons went for stock splits during tough financial year in 2015-2016, which saw BSE benchmark Sensex trade in a broad range between sub-23,000 and 29,000 levels amid its struggles with weak domestic and global developments. The list of stock splits in 2016 included six textiles companies, 5 drug makers, 5 engineering companies and 4 auto and auto ancillary companies.

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 Among the 50 companies, stocks of 28 firms delivered anywhere between 11 percent and 590 per cent returns on an adjusted basis. The rest 22 stocks fell anywhere between 2 percent and 74 per cent of their market values.  Precision Wires India and Welspun India were the last two stock splits of FY 2016. The stock delivered 16.60 per cent return during financial year.  Shares of Chaman Lal Setia Exports, Signet Industries, Alankit, Menon Bearings and Stampede Capital, which went for stock splits, jumped between 100 per cent and 300 oer cent during financial year.  Tide Water Oil, whose price was Rs 33,200 in January 2016, went for stock split (From FV Rs 10 to FV Rs 5) as well as bonus issue (1:1) in March.  Cadila Healthcare was more than Rs 2,100 when the stock was split into five in October, 2015. SMS Pharmaceuticals, Sequent Scientific, Natco Pharma and Shilpa Medicare were the other stocks that were split during FY 2016. Shilpa Medicare and Natco Pharma fell 13 percent and 2 per cent respectively. The other two pharma companies stock gained between 40 per cent and 60 per cent.  Welspun India, Lambodhara Textiles, Bhandari Hosiery Exports, Indian Terrain Fashions, Samtex Fashions and Sarla Performance Fibres were among six textiles companies which went for split. The stock gained between 11 per cent and 180 per cent for the financial year 2016.

VI CONCLUSION

In today’s corporate world, stock splits have become very common phenomena. The popularity of the stock splits could be evaluated from the fact that within one year of the abolition of par-value concept, more than dozen companies had either completed a stock split or had announced one. Many companies believe that greater liquidity may arise in lower price change. The investors preferring lower prices are usually uniformed and are good for market stability. Diffused ownership also leads to lesser control over company’s affair. Stock splits are also favored by those companies whose stock price has attained a level that is out of popular trading range. This high price reduces liquidity. To overcome this, management announces split that makes the shares affordable for more investors. Greater liquidity, reduced price and wealth creation encourage shareholders to accept splitting of shares. Optimal price, more investor base, enhanced market and diffused ownership motivates a company to go in for stock split.

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[4]. http://www.equitymaster.com [5].http://web.sebi.gov.in/commreport/smacrep.html [6]. http://web.sebi.gov.in/circulars/1999/CIRMB02-99.html [7].Pilotte, E.; and T. Manuel, (1996), “The Market’s response to recurring events: The case of Stock Splits”, Journal of Financial Economics, Vol. 41, pp. 111-127

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