What Can We Learn From Amazon’s Stock Split?

Yesterday, Amazon announced a 20-for-1 stock split, meaning its investors will receive 20 shares for each share they currently own. The news sent Amazon’s stock price soaring by 5.5%.

A stock split is a cosmetic change: it merely breaks each share into smaller pieces without affecting its fundamental value. But nevertheless, stock prices tend to react positively to the announcement of a split, as investors accept the common argument that lower prices make the individual shares more attractive and accessible smaller retail investors. But in this case, there is potentially an ulterior motive behind the split. There is a good chance that Amazon is bracing itself for some major mergers and acquisitions.

When firms acquire other firms, they can pay for the acquisition by either using cash or by offering to pay the seller with the acquirer’s stock. The main advantage of a stock-for-stock acquisition is that the acquirer does not need to put down its own cash or raise external funding to pay for the acquisition. And how is this connected to Amazon’s stock split? Well, it turns out that firms are more likely pursue a stock-for-stock acquisition after they have split their shares.

The reason for the confluence between stock splits and stock-for stock acquisitions is very simple. A rise in the acquiring firm’s stock price makes stock-for-stock acquisitions more attractive because it raises the value of its “currency”—that is, its stock price. That’s right: despite the fact that they are largely cosmetic, stock-splits tend to raise stock prices!

Here are two telling examples.

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1. On November 4th, 1999, in what is still the largest M&A deal in the pharmaceutical industry, Pfizer announced that it would pay over $90 billion to acquire Warner-Lambert, which had just launched the blockbuster drug Lipitor. This was a stock-for-stock merger in which Pfizer exchanged 2.75 of its common stock for each outstanding share of Warner-Lambert stock. But prior to the acquisition, in July 1999, Pfizer announced a three-for-one split.

2. AOL executed a two-for-one stock split on March 17, 1998, followed by another two-for-one split on November 18 of that year, before going on to acquire Netscape for $4.2 billion. Next, it executed two more two-for-one stock splits in 1999 before announcing the acquisition of Time Warner for $164 billion.

Stock-for-stock acquisitions have become particularly popular in the technology sector. In 2020, 39.5% of all deals used stock to pay for the acquisition, but among technology companies the share of stock-for-stock acquisitions is around 50%. The largest technology deals in 2020 almost exclusively used stock-for-stock, including AMD’s acquisition of Xilinx Inc for $35 billion and Salesforce acquisition of Slack technologies for $27.7 billion.

Amazon is not alone in splitting its shares. Just a month ago Alphabet announced a 20-for-1 stock split that will become effective in July. Does this mean we will see some major acquisitions in the technology sector in the near future?

Both stock splits and stock-for-stock acquisitions tend to follow soaring stock prices. Valuation of technology companies took a hit recently, but they have appreciated so much during the rally in technology stocks over the last two years that they are still historically high. So if history is to repeat itself, we should brace ourselves for a mergers and acquisitions cycle in the technology sector.

But it is also possible that this split signals a very different scenario—that technology firms have reached their peak and are likely to decline. Amazon’s last split before the one that was announced yesterday was in September 1999, just a few months before the bursting of the dot.com bubble. And Yahoo! completed a 2-for-1 split in February 2000, just a few weeks before the burst of the bubble.

So, we must wait and see. A cluster of stock splits by major technology companies is not generally a random occurrence. Time will tell whether it signals an active M&A cycle or something much more ominous.

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