REVERSE STOCK SPLITS AND INSTITUTIONAL OWNERSHIP

Abstract

This paper examines the relationship between reverse stock splits and institutional ownership. While some see stock splits as purely cosmetic actions, extensive research has shown that stock splits can impact the firms. One of the possible reasons cited for reverse stock splits is that when the share price is above a certain pricing range, the stock is more marketable to institutional investors. Since reverse stock splits can increase share price, it will help to attract more institutional investors. In my research, I find that a statistically significant and positive relationship exists between reverse stock splits and institutional shareholdings. The results are statistically significant and positive for stocks with immediate post split share price around $2.63 – $19.53. These results are robust after accounting for an increasing ownership bias. However in the presence of other influencing variables such as size, there is mixed evidence as to whether price still has an effect. In addition, there is an interesting observation with regards to the types of institutional investors that increase their ownership. I find that the primary increase in institutional ownership is due to increased ownership by transient investors, quasi indexers, and investment firms; price does not have a positive effect in attracting dedicated investors and pension funds. The investment horizon of institutional investors is not the key distinguishing characteristic, but rather the propensity for risk taking; institutional investors who are attracted tend to have higher risk appetite. This information can be of great significance to management’s decision over issuance of reverse stock splits, as attracting transient investors (short term), instead of dedicated investors (long term) may not be favorable for long term firm value.