Unraveling the Mystery: Why Some Shares Have Different Face Values
In the world of finance and investment, the concept of share face value often confounds investors. Share face value is the nominal or par value assigned to a share during the initial public offering (IPO) or when the company was first formed. However, it's a value that holds little practical significance in the stock market today. This article aims to demystify the reasons behind different share face values and their impact on investors.
Understanding Face Value and Its Significance
Face Value vs Market Capitalization
When a company issues shares, the face value is determined based on the initial valuation of the company. For example, if a company is valued at Rs. 1,000,000, it can decide the face value of its shares to be Rs. 10 each, resulting in 100,000 issued shares (1,000,000 / 10). Alternatively, if the face value is set at Rs. 100, it will result in only 10,000 issued shares (1,000,000 / 100).
It's important to note that what truly matters in the market is the market capitalization, which is calculated by multiplying the share price by the number of issued shares, as well as the profit the company generates.
Why Do Some Shares Have Low Face Values?
Consider the case of Ashok Leyland, a company that maintains a face value of Rs. 10 per share. If you invest Rs. 10,000, you will acquire 1,000 shares, and if these shares yield a 10% return, you would earn Rs. 1,000. Conversely, a company like Reliance Industries, known for its high face value of Rs. 100, would give a return of only 5%, resulting in a profit of Rs. 500 on the same investment.
One of the primary reasons for maintaining a lower face value is to facilitate large-scale trading. Companies like Ashok Leyland may prefer a lower face value because it allows for higher volume trading, which can enhance liquidity and overall market engagement. When a company keeps its face value at Rs. 10, it enables investors to invest in numerous shares, which is more appealing than a company with a high face value where the investor would have a smaller stake in the company.
Share Splitting and Its Implications
Companies may also choose to split their shares in order to make them more accessible to a wider investor base. For example, Nestle India, which has a face value of Rs. 10, now trades at a much higher price around Rs. 6,000, with little change in its market capitalization. On the other hand, SBI split its shares 10 to 1, which means that the face value reduced from Rs. 10 to Rs. 1, and the share price decreased by a factor of 10 to around Rs. 270.
Share splitting doesn't fundamentally alter the company's value. Instead, it increases the number of shares and reduces the share price. This move can make the stock more attractive to a broader range of investors. Despite this, the overall value of the company remains unchanged; the only thing that changes is the perception of the stock's affordability.
Conclusion
Investing in shares with different face values isn't about the face value itself but rather about the potential return and the company's performance. Face value is a relic of the past, and it has little to do with the current market value of a share. It's the share price and the company's profitability that investors should focus on when making investment decisions.
Frequently Asked Questions
1. What is the significance of face value in the stock market?
Face value is a historical value assigned to shares during the IPO or initial formation of the company. It doesn't play a significant role in determining the stock's market value or its performance. Instead, investors should focus on the company's earnings, the stock's price, and its overall market capitalization.
2. Why do some companies choose to maintain a low face value?
Companies with a low face value can offer more shares for the same investment, making the stock more accessible to a broader range of investors. This can enhance liquidity and engagement in the stock market. Additionally, it can incentivize long-term investment.
3. What is the impact of share splitting?
Share splitting increases the number of shares and reduces the share price, making the stock more affordable for new investors. However, it doesn't change the company's inherent value. The primary goal is to attract a wider investor base and enhance liquidity.