Stock splits are a fact of life in the investing world. Recently, companies such as Timberland (NYSE: TBL ) , Shuffle Master (Nasdaq: SHFL ) , and Apple Computer (Nasdaq: AAPL ) have announced splits. (Read more about Timberland, Shuffle Master, and Apple.) How does stock-splitting affect a company's earnings, dividend, and fair value? Well, stock splits are minor mathematical events that change numbers, but not value.
Let's say that the Dodgeball Supply Co. (ticker: WHAPP), trading at $50 per share, has reported $2.50 per share in earnings for the last year, and pays a $1.50 annual dividend. If it splits 2-for-1, the number of shares outstanding will suddenly double and will trade around $25 each. (Shareholders will own twice as many shares valued at about half their pre-split price). The company's previous earnings per share (EPS) of $2.50 will also be halved, to $1.25, and its annual dividend will be adjusted downward, from $1.50 to $0.75.
If the stock's fair value had been $60 pre-split, it will be about $30 post-split. Its price-to-earnings ratio shouldn't change, as both the price and the EPS components have decreased in the same proportion. Its total market value is also unchanged.
Here is more info on stock splits: