Citi announced a 1-for-10 reverse stock split yesterday.
It's a zero-sum game. Let's say the stock closes at $4.43 -- yesterday's closing price -- on May 6. Every10 shares owned will be replaced by a single share at $44.30 a share.
There's no free lunch, but that's not stopping worrywarts from feasting on Citi. The stock closed nearly 2% lower on the news, bucking yesterday's general market ascent.
Why the hullaballoo over a simple bookkeeping procedure? We can blame the psychological implications. When high-flying stocks declare traditional forward stock splits, investors interpret the feats as declarations of optimism. A confident company can slash its price by a third -- and give every shareholder three times as many shares -- because it feels that its stock will continue to rise. If that thesis holds up, shouldn't the theory that reverse splits are declarations of pessimism also hold water?
A reverse by any other name
Citi isn't desperate. Its share price is low -- at $4 and change -- but not low enough to risk exchange delisting.
Shareholders voted in favor of giving Citi's board the right to declare a split last summer, though. That hall pass expires at the end of June. Citi can ask shareholders to approve another annual extension, but what's the point?
If Citi's stock were a slam-dunk to be trading in the double digits over the next year or so, we wouldn't be talking about a reverse split. It's a new world now. These are post-TARP times, and the "too big to fail" Citigroup in particular has shown a desire to move away from the kind of speculative risks that initially padded profits before taking the financial services industry down. In other words, Citi's organic push out of the single digits may take awhile. It hasn't seen double digits since November 2008.
Who cares? When you're a consumer-facing company -- and Citibank clearly is -- appearances do matter. Potential clients open accounts at financial institutions that they feel have fiscal strength. How many people have pulled up a single-digit stock quote on Citi, and mistook it for panic when it's really a matter of a banking giant with too many shares outstanding?
Citi shares can thrive after its May reverse-split, but only if Citi makes it happen.
There's more roadkill than roadrunners among the companies that have opted for reverse facelifts. Many of the analysts, financial journalists, and investors who are shaking their heads at Citi's move are quick to rattle off the growing list of the walking dead that have gone this route.
I get it. Most companies that initiate reverse splits are desperate. They face delisting. They're fading companies. They're forgotten shadow stocks.
It's a different story when a successful company -- or at least one that has truly bottomed out and is turning itself around -- takes this path.
I got slammed after suggesting that Sirius XM Radio
If a company is already turning its fortunes around, a reverse split isn't going to force fundamentals to crater.
Let me close by taking a look at five reverses that have paid off.
(Nasdaq: PCLN): This is the undisputed darling among domestic travel portals, but you wouldn't have thought that during the dot-com bubble. priceline went through a 1-for-6 reverse split eight years ago, but it was ultimately rewarded as a survivor that consistently trounces Wall Street's profit targets.
(Nasdaq: GKNT): Tech nerds dig Geeknet's collection of websites that include Slashdot, SourceForge, and Geek.com. When ThinkGeek introduced canned unicorn meat as a prank novelty, GeekNet's community howled with laughter. However, the dot-com duckling was ignored with its penny stock price. It executed a 1-for-10 reverse with its stock at $2.29 pre-split. It's trading only marginally higher now, but it's just one more example of life after reverses. It only helps that Geeknet is coming off a monster quarter with revenue soaring 53% and operating profits more than tripling.
(Nasdaq: XOMA): Reverse splits for biotechs are often the end of the line. They usually play out as speculative surrenders. Thankfully for XOMA, it hasn't been so bad since this past summer's 1-for-15 reverse. A year of largely positive developments for its XOMA 052 drug candidate have seen the stock go from $4.20 immediately after executing the split to $4.74 today. It's not priceline-esque, but it's another company that lived to tell the reverse tale.
Coeur d'Alene Mines
(NYSE: CDE): The silver mining specialist executed a 1-for-10 reverse split when its stock was at $1.40 nearly two years ago. The split-adjusted shares have gone on to more than double. The miner is coming off a blowout quarter, and last month raised its 2011 production targets.
(NYSE: BH): The Steak 'n Shake makeover wasn't complete until CEO Sardar Biglari renamed his company after himself and went for a 1-for-20 reverse. Biglari didn't need the reverse split given the resulting triple-digit share price, but now another reverse split may be in the works.
So cut Citi a break. If you're going to sell -- or hate on -- Citi, do it for the right reasons. A reverse is only as good or bad as the company declaring the split.
Are reverse splits good or bad? Share your thoughts in the comment box below.
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Longtime Fool contributor Rick Munarriz doesn't mind shifting into reverse, as long as he can see where he is going. He does not own any of the stocks in this story. Rick is also part of the Rule Breakers newsletter research team, seeking out tomorrow's ultimate growth stocks a day early. The Fool has a disclosure policy.