Money Matters

Does Duke-Progress reverse stock split mean its time to sell?

June 17, 2012 

Q: I own a lot of Progress Energy stock. I’m concerned about what I’ve heard will occur once the merger goes through and want to know if I should sell the stock now. I’ve owned it for many years and would have a rather large gain if I sold. I’ve heard that they are going to automatically reduce the number of shares I own, and consequently my dividend income stream will decrease. Should I sell now while long-term capital gains rates are low and the stock price is relatively high?

A: I can’t tell you whether to sell or hold without knowing more about you and your portfolio. Rule of thumb is not to hold more than 10 to 20 percent of any individual stock in your portfolio. You don’t want a portfolio with a high concentration of risk. This occurs when you have too few individual stock holdings, too many stocks are linked to one sector (such as energy) or one or two stocks make up a large percentage of your portfolio. If you determine that your portfolio is heavily weighted in one individual stock, selling it when the price is high and the capital gains tax is low seems prudent.

If you are considering selling the stock based solely on the recently announced 1-for-3 reverse stock split as part of the Duke Energy-Progress Energy merger, I think that is a mistake. When a reverse split happens, the market capitalization remains constant because the market value of the total amount of shares is still the same after the split. All that changes is the number and price of the shares. Example: a company trading at $20 a share with 500,000 outstanding shares has a 1-for-2 reverse split. After the split, the share value is $40 and the number of outstanding shares is 250,000. The market capitalization is $10 million ($20 x 500,000 or $40 x 250,000) before and after the split.

There are several reasons a company will decide on a reverse split. Some use it as a last resort to keep the company from being delisted on an exchange. Some institutional investors are not allowed to purchase a stock trading below a certain price, so the split is used to keep the price at a certain level. Last year when Citigroup was trading for less than $5 a share, the company executed a 1-for-10 reverse stock split. Every 10 shares of stock were replaced with 1 share. At $5 a share the price went to $50 a share, and now the stock is trading under $30 a share. This was just an accounting maneuver used as an easy way to increase the stock price rather than making improvements to the business.

As with all reverse stock splits, the Duke split will increase the price per share and reduce the number of shares outstanding. The reasons listed on the investor relations website for the split seem logical. “Currently, Duke has more than 1.3 billion outstanding shares. After the Duke/Progress merger, if there were no reverse stock split, the company would have to issue approximately 750 million additional shares, bringing the total to more than 2 billion shares, which is a very large amount.” There are certainly companies with many more outstanding shares, but this is a viable reason. The companies also state that after the split, shareholders would own one-third as many shares but they expect the quarterly dividend per share would triple. “This assumes Duke’s board maintains the dividend at its current level and adjusts it for the reverse stock split”. The key word being assumes. You can read more about the merger and the reverse stock split at: www.duke-energy.com/progress-energy-merger/faqs.asp.

Holly Nicholson is a certified financial planner in Raleigh. She cannot answer every question. Reach her at askholly.com or P.O. Box 99466, Raleigh, NC 27624

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