Pennsylvania Investment Observer

Rewriting History

by Daniel J. Nestlerode

I recently unloaded a stock from the portfolios that I manage because I suspected that the upcoming earnings report would be less than flattering. Indeed, as reported the earnings were down 91% versus the same quarter last year and sales were off by 28%. I was correct in suspecting that the company would report lower sales and earnings. The stock price, however, rallied from $2.06 a share to $2.45 a share after the earnings were reported. Perhaps other investors were looking for even poorer results. So I was right about the company results and wrong about the stock price.

This morning I was opening my stock quote screens on my computer and lo and behold the stock is trading this morning at $9.96 a share. Things like this can really start the day out on the wrong foot. I am generally all right with being a little wrong. But a whole lot wrong is not a good thing for a portfolio advisor. Then I recalled that there was a reverse split pending. I scratched my head and headed for Daily Graphs on line to see if the reverse split has indeed become effective. Reverse splits, you see, reduce the number of shares that you own and make the remainder worth more per share. My old stock had a one for four reverse split, meaning that if you owned 400 shares before the split, you would own 100 shares after the split. If the math works as it should, the value of 100 post split shares should be the same as 400 pre-split shares. Indeed, that is the case. My adjusted price is $2.49 per old share (one quarter of $9.96 a share). Stock splits do not make shareholders richer or poorer.

A more nefarious outcome results from reverse splits. The stock charting services and the historical pricing services adjust all the historical data for the stock to reflect the reverse split. Now all the old prices are four times higher than the price level at which they really traded. Without looking for a reserve split, suddenly my old investment looks like a much more credible company, historically. To the untrained eye, history has been rewritten because of the way that historical prices are automatically adjusted for reverse splits.

Reserve splits are often a sign that a company is in trouble and is struggling to maintain investor credibility. In my forty years on Wall Street, I do not recall one company that reverse split its stock and went on to become a favorite with investors. More often, such actions were part of a set of actions that resulted in less value for investors over time.

So when you are perusing the stock pages in the papers, remember that newspapers generally don't keep good footnotes about reverse splits. To really view the historical prices for any stock, you have to follow a more comprehensive service that footnotes those events that impact stock prices, including reverse splits. Even history must be viewed with a critical eye so that you can avoid assuming a company is more credible than the facts really convey.

top of page | article archive

Home | About Nestlerode & Loy | Company News
Traditional Brokerage | Discount Brokerage | Investment Management
Investment Research |  Investment Articles

Privacy Policy

1-800-922-7492
Contact Nestlerode & Loy

©1997-2007 Nestlerode & Loy, Inc.