In a share consolidation, multiple shares of stock are merged into a single share of stock. A stock-funded buy-out and a reverse stock split are examples of share consolidation. In a stock buy-out, the buyer company issues additional shares of its own stock to purchase the second company. The shareholders of the second company receive stock in the first company, instead of getting cash in exchange for their shares. In a reverse stock split, one company combines several shares of its own stock into a single share.
Stock-Funded Buyout Advantages
A stock-funded buy-out allows a company to purchase another firm without spending cash or taking out a loan. The transaction still has a cost. Issuing the extra shares can reduce the buyer's stock price, because investors may believe that the second firm is not worth the number of shares that the buyer is offering for it. Current stockholders will hold a smaller percentage of control of the firm even if the total value of the shares they own does not change. A company can also use a combination of its own stock and cash to fund a buy-out.
After the purchase, the buy-out target merges with the buyer, and its shares no longer trade separately on an exchange. All of the shares of the second company are exchanged for shares of the first company when the transaction is complete. The target is removed from any stock market index it is in, which will change the value of the index. The index manager may replace the target with a different corporation in the index.
The number of shares outstanding after a buy-out depends on the value of the stock of the buyer and the seller. If the seller's shares were more valuable than the buyer's shares, there will be more total shares available after the buy-out. When a company merges its own shares together in a reverse stock split, there are always fewer shares outstanding after the combination.
Reverse Stock Split Warning
Share consolidation through a reverse stock split provides a warning sign that a company is in trouble. The company may not be able to increase its stock value by selling more products and may be attempting to increase its share price to appear valuable to investors. A stock that falls below the minimum price that the stock exchange allows will be delisted from the exchange, so a company that is about to go bankrupt may consolidate its shares so it can stay above this price threshold. According to Northwestern University, the New York Stock Exchange will remove a corporation if the average price of its stock in any 30-day period is below a dollar.