Why Amazon is splitting its shares

Amazon has just announced a stock split for the first time since the dotcom bubble years. It’s the fourth such split in the company’s near-30-year history. Assuming the move is approved at the annual general meeting in May, then from 6 June, Amazon’s investors will get 19 extra shares for each one they already hold (what’s known as a 20-for-one split). Alphabet – Google’s parent company – did the same thing last month, for only the second time since it went public in 2004.

To be very clear, share splits make no difference to the value of the company. It’s as if I gave you a cake, then said I was going to cut it into 20 slices. You’d still have exactly the same amount of cake (for the pedants out there, we’ll assume no loss to crumbling or sticking to the knife). Yet the share price bounced significantly on the news. So to ask the obvious question: what’s the point of doing this, and why the excitement?

What’s the point?

The rationale often given for stock splits is to reduce the price of an individual share, thus making them more accessible – and indeed, that’s how Amazon spun it. Yet as we note below, this isn’t all that convincing, particularly in these days, when fractional share ownership is possible.

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Bloomberg’s Jonathan Levin and Eric Savitz in Barron’s suggest a more convincing reason why Amazon and Alphabet might want to consider stock splits. It’s all about getting more exposure to index-tracking funds. How? Alongside the S&P 500, the Dow Jones Industrial Average is the best-known stock index in the US. It comprises 30 big-name US companies. However, it’s built in a way that may have made sense when it was launched in 1896, but no longer does. The S&P 500 – like most headline market indices – is based on market capitalisation (the share price multiplied by the number of shares in issue). In short, the bigger the market cap, the greater its weighting in the index.

By contrast, the Dow is weighted simply by share price. For example, UnitedHealth Group is the top-weighted Dow stock with a share price of around $500. Intel is the lowest, on $45. Yet United’s market cap of $460bn is less than three times that of Intel on $181bn. As a result of this odd methodology, the committee makes sure that the highest-priced stock in the index remains roughly ten times the price of the lowest. That means Amazon or Alphabet on share prices of around $2,500-$3,000 are simply too pricey for the Dow (whereas Apple, a fellow tech giant, is in the Dow with a share price of around $150). A 20-for-one split will put both in the running for the Dow – and all that lovely passive money flow.