It's been a wild year on Wall Street in many respects. Following a steady march higher for the broad-market indices in 2021, investors have been contending with steep declines in the 125-year-old Dow Jones Industrial Average, benchmark S&P 500, and technology-dependent Nasdaq Composite in 2022. In fact, the Nasdaq was in bear market territory as recently as last week.
A number of stories and events have caused wild vacillations in the market, including the uncertainties associated with the spread of COVID-19, supply-chain issues, historically high domestic inflation, and the ongoing conflict in Ukraine with Russia.
Image source: Getty Images.
But it's not been all bad news. The respective 20-for-1 stock split announcements from Amazon (AMZN -2.45%) and Alphabet (GOOGL -1.42%) (GOOG -1.31%), the company behind popular internet search-engine Google and streaming platform YouTube, have lit a fire under the shares of both companies. It's also raised a lot of questions as to what these stock splits might signify, if anything.
Below, I'll walk you through the three must-knows of the Alphabet and Amazon stock splits.
1. It's all about aesthetics
Arguably, the biggest takeaway from both stock split announcements is that these moves are purely aesthetic.
A stock split is a way for a publicly traded company to alter its share price and outstanding share count without having any effect on its market value or the underlying performances of its business. For example, if a company had 10 shares outstanding and those shares each traded for $1,000, the total market cap of the company would be 10 X $1,000, or $10,000.
If this company were to conduct a 5-for-1 forward stock split, the number of shares outstanding would increase by a factor of five, while the share price would be reduced by the same factor (i.e., 1/5th of the previous price). Instead of 10 shares trading at $1,000, a 5-for-1 stock split would aesthetically change things to 50 shares outstanding at $200 each. Note, the market value of the company is still unchanged at $10,000.
While the example above is fictitious, the same premise and math applies for all stock splits. With Alphabet and Amazon both announcing 20-for-1 forward stock splits, the number of shares investors own will increase by a factor of 20, while the share price of both companies will decline by a factor of 20 (i.e., 1/20th of what they were previously).
Assuming both stock splits receive shareholder approval, Amazon's split would go through in early June, and Alphabet's by mid-July. Based on where they closed this past weekend, a share of Alphabet (Class A, GOOGL) would run about $136, while a share of Amazon could be had for roughly $161.
Image source: Getty Images.
2. Retail investors are the big winners
The second thing to know about these stock splits is that they're a potentially big deal for retail investors.
Over the past couple of years, online brokerages have rolled out new tactics and services to court retail investors. This includes ditching commission fees on trades made on major U.S. exchanges, eliminating minimum deposit requirements, and potentially offering fractional-share investing. The latter allows an investor, who might not have a lot of cash in their account, to purchase a fraction of a share of a stock with a high share price.
The issue for investors is that not every online brokerage offers fractional-share investing. As of this past weekend, Alphabet's Class A shares and Amazon respectively closed at roughly $2,723 and $3,225. Unless you had a lot of cash sitting in your brokerage account, it would be hard to purchase a single share of either company.
However, these upcoming stock splits are going to make it a lot easier for retail investors to put their money to work in these two historically great FAANG stocks. In a post-split environment, investors with $1,000, $500, or even $175 in available cash in their brokerage account will be able to take a position in Alphabet and/or Amazon, even without access to fractional-share investing.
Image source: Getty Images.
3. These splits are validation of Alphabet's and Amazon's superior operating performance
The third thing investors should understand about Alphabet's and Amazon's huge stock splits is that they're validating the long-term outperformance of both companies. Stock splits are usually undertaken when a company's share price is high -- and that tends to happen when a company is executing well and out-innovating its competition.
To offer additional context, shares of Alphabet (GOOGL) have climbed more than 5,300% since its initial public offering (IPO) in 2004. Meanwhile, Amazon's stock has gained a blistering 164,500% since its IPO date nearly 25 years ago.
Alphabet's amazing return is a function of the company's dominance of internet search, as well as the promise its ancillary growth channels offer. According to data from GlobalStats, Google has held between 91% and 93% of global internet search-market share dating back at least two years. This near-monopoly status gives the company excellent ad-pricing power.
In terms of ancillary growth opportunities, YouTube is now pacing $34.5 billion in annual run-rate ad revenue, with cloud infrastructure service Google Cloud surpassing $22 billion in annual run-rate revenue during the fourth quarter. Google Cloud has consistently been growing annually by 45% to 50%.
As for Amazon, an August report from eMarketer estimated the company would control 41.4% of all online sales in the U.S. last year. That's nearly six times the online retail share of the next-closest competitor.
However, Amazon's future lies with its higher-margin segments, such as cloud infrastructure service-provider Amazon Web Services (AWS), advertising, and subscriptions. Despite AWS accounting for only 13% of net sales in 2021, the high margins associated with cloud services helped it generate 74% of Amazon's operating income for the year.
The upcoming 20-for-1 stock splits for Alphabet and Amazon validate their ongoing operating excellence.
