In the company’s annual general meeting, hosted on Thursday, the board of E*Trade Financial Corp. (ETFC) announced the approval of a reverse split of the outstanding shares of common stock in the ratio of 1-for-10. This is expected to be effective by early June 2010.
According to this reverse stock split strategy, E*Trade will be able to contract its shares outstanding by lending out one share for every 10 shares without altering the market price of these 10 shares. This implies that one share of E*Trade would be then valued at a price equivalent to the current price of 10 shares of the company. The market value of the total number of shares (market capitalization) remains the same by this method.
Estimate Trend Revision
Over the last 30 days, four of 13 analysts covering E*Trade have lowered their estimates for the second quarter of 2010, while three upward revisions were witnessed. Currently, the Zacks Consensus Estimate for the second quarter is operating loss of one cent per share, which would be up by 94.4% from the year-ago quarter.
The fewer upward estimate revisions for the second quarter indicates a likelihood of downward pressure on the performance of the stock in the near term.
With respect to earnings surprises, the stock has been steady over the last four quarters, with all four positive surprises. The average remained positive at 34.0%. This implies that E*Trade has surpassed the Zacks Consensus Estimate by 34.0% over that period.
The downside potential for the estimate in the second quarter, essentially a proxy for future earnings surprises, currently stands at 14.3%.
Earnings Recap
E*Trade’s first quarter loss was a penny better than the Zacks Consensus Estimate. However, the company succeeded in increasing efficiencies with a significant trim in losses in the recent first quarter results. This was helped by an augmented top-line, lower-than-expected operating expenses and a decline in loan loss provisions.
Conversely, asset quality issues and restructuring expenses continue to adversely affect financials, although E*Trade managed to reduce the balance sheet risk, as its loan portfolio contracted by $1.0 billion from Dec 31, 2009. Overall, credit trends reflect improvement but core brokerage trends, including trading and account growth, were relatively sluggish.
Our Take
E*Trade’s decision to implement the reverse stock split comes from the opinion that investors are undervaluing the stock and that a depressed stock price is preventing new investors from buying. Since a reverse split raises a stock’s per-share price by eliminating a percentage of outstanding shares, it consequently gives an impression that the demand for the stock has picked up, thereby prompting momentum investors to purchase shares.
Moreover, even the recent improvement in E*Trade’s earnings have not been able to attract investors, as a result of which the stock price of E*Trade continues to stagger at very low levels on Wall Street. This also reflects that the stock holds the risk of being de-listed in the market, which in turn justifies E*Trade’s reverse stock split decision as a quick rectification measure.
On Thursday, the shares of E*Trade closed at $1.60 per share, at par, on the Nasdaq Stock exchange.
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