Publicly traded companies often conduct transactions to increase shareholder value and increase the price of their stock. Sometimes companies wish to create more stocks, a process called a stock split, and in certain instances, a company may wish to have less outstanding stock. This process is called a reverse stock split or stock consolidation.
A stock consolidation occurs when a company takes the number of its outstanding shares and consolidates them into a smaller number of shares, thereby increasing the value of a single share of stock on a proportional basis. A company may engage in a stock consolidation without shareholder approval, but the process must follow the company’s articles of incorporation and bylaws as well as state corporate law.
The purpose of a stock consolidation is generally to increase the stock price, while reducing the number of outstanding shares. The higher stock price is thought to entice larger investors, such as mutual funds.
Stock consolidations are not always successful in increasing the value of shares of stock, because the financial viability of the underlying company does not change due to the stock consolidation. Basically, a stock consolidation can be called a superficial financial transaction. A study conducted by NYU's Stern Business School and Emory's Goizueta Business School in Atlanta found that stocks that have been consolidated do not perform as well in the full market for the three-year period following the reverse stock split. There are companies, however, that are quite successful following a stock consolidation. AIG shares have almost doubled since their reverse stock split in 2009.
Example of a Stock Consolidation
Citigroup’s stock declined significantly and Citigroup announced in March 2011 that it would conduct a 1-for-10 reverse stock split. This means that every 10 shares would be consolidated into one share. The shares, which were valued at $4.50 each as of the announcement, would be worth $45 post-consolidation.