Stock splits have been popular on Wall Street in 2022, with companies including Alphabet, Amazon, and Shopify participating in the frenzy. While stock splits have no material effect on a company's valuation, the practice can encourage retail investors to buy shares at the lower price.
Adobe (ADBE -0.82%), a leader in computer software, is one company that could benefit from a split as its stock is close to $400 per share. Let's explore further.
What's a stock split?
A stock split is when a company multiplies its outstanding share count without changing its overall market capitalization. If a company splits a stock that you own, your investment's value will not change, just the number of shares.
So if you own 100 shares of a company at $10 per share, and the company splits its stock 2 for 1, then you will own 200 shares at $5 each.
Why would a company split its stock?
A stock that trades at a high price, like Adobe, can become prohibitive for prospective buyers. And while many brokerages offer fractional shares today, there are still prominent brokerages like Vanguard that do not.
In theory, if more investors can purchase a stock due to a lower share price, there could be a higher demand for a company's stock and, therefore, its total market capitalization will increase.
A lower stock price can also give a company's employees more flexibility in managing their equity. Whether it's equity compensation packages or employee stock purchase plans, companies like Tesla claim a lower stock price helps attract and retain talent.
Adobe has split its stock before
Adobe has split its stock five times over its 35-plus years as a publicly traded company. In each instance, it was a 2-for-1 split, with the last in 2005. The 17 years since its previous stock split is the longest period in the company's history, with the next longest being only six years.
CEO Shantanu Narayen was appointed to his position in 2007, meaning he has yet to oversee a stock split. However, Narayen joined Adobe in 1998 and witnessed three stock splits before being promoted to CEO.
Is Adobe a buy ahead of a potential stock split?
The possibility of a stock split is generally an inadvisable reason to invest in a company. Its financial performance has a much more profound effect on how a stock will do in the long term. So it's important to look at how Adobe's business has performed recently, as well as guidance by its management.
First, Adobe recently reached a record $4.39 billion in revenue for its second quarter, representing a 14% year-over-year increase. Management is guiding for full-year 2022 revenue to hit $17.65 billion, compared to $15.78 billion for 2021, a roughly 12% increase.
Second, Adobe's most-recent quarter produced adjusted earnings per share of $3.35, a 10.5% increase from a year ago. Management guided for full-year 2022 adjusted EPS of $13.50 versus $12.48 in 2021, about an 8% increase.
If Adobe's business can hit or exceed management's goals, expect its stock, which has declined 35% over the past 12 months, to be "photoshopped" in the coming years.
