Stock splits, reversed

Q. Is it OK if a company does a reverse split?

A. It’s typically a red flag, suggesting that the company may be struggling and may not be a great investment. With a regular stock split, you end up with more shares, priced proportionately lower. But a reverse split does the opposite, propping up the stock price while shrinking the number of shares.

Imagine the Free-Range Onion Co. (Ticker: BULBZ), which trades at $4 per share. If you own 200 shares and the company executes a 1-for-10 reverse split, you’ll end up with 20 shares, priced around $40 each. The total value of your shares remains the same — $800 — both before and after the split, just as with regular stock splits. All that happened is that the company increased its stock price by decreasing its number of shares.

Some reverse splits happen so companies can avoid being delisted from stock exchanges that require minimum price levels.

If you see that a troubled company’s stock is suddenly sporting a significantly higher price per share, know that a reverse split may have happened — not an operational turnaround. At the very least, do further research before investing in it — because many stocks’ prices continue to fall after a reverse split.

Q. In the investment world, what are “convertibles”?

A. They’re securities such as bonds or preferred stock that can be converted into shares of ordinary common stock — according to specified terms. They often provide more income than a common stock, and potentially more gain than a regular bond. Convertibles are complex and best avoided by beginning investors.

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LinkedIn and out

Dear Fool: My dumbest investment was when I bought shares of LinkedIn. They plunged by more than 40% in a single day!

The Fool responds: It sounds like you sold your shares soon after that, because if you had hung on, you might not have been hurt so much. The shares started climbing again after that drop in February 2016, and then surged by roughly 50% four months later, when Microsoft announced it was buying LinkedIn for about $26 billion. Those who had bought the stock at its peak still ended up with a loss, but many investors realized a gain.

The reason shares plunged that February: After LinkedIn posted quarterly results that outpaced expectations, management offered unexpectedly weak projections for near-term performance. Still, LinkedIn was bought at a premium price because it did offer a lot of value — it was, in its own words, the world’s largest professional network, with ample opportunity to make money from its users (such as via subscriptions, memberships, advertising and so on). The company also had been posting strong growth — in the site’s page views, in the number of members sharing content on the platform, in its job-search app’s traffic and more. When investing for the long run, it’s important to focus on a company’s long-term growth and profit potential and its chances of successfully executing its plans.

The world’s largest video-game company

Chinese tech stocks were battered this past year over concerns about the economy and a crackdown by regulators on violent entertainment content, especially in video games. Tencent (NASDAQOTH: TCEHY) is the world’s largest game company by revenue and was walloped when regulators halted new game approvals last year.

But Tencent is poised to bounce back, operating in social media, video and music streaming, and mobile payments. Regulators are beginning to approve new games, and Tencent has begun to release new titles this year.

Meanwhile, Tencent has a leading market position in social media, with 1.11 billion users across its Weixin and WeChat platforms. Revenue from its segment that includes mobile payments and cloud computing climbed 44% year over year in the first quarter, comprising a quarter of total revenue.

Tencent has also invested in more than 700 companies, ranging from leading video game companies to moonshot opportunities in connected cars, internet-facilitated health care and quantum computing.

With China’s gaming market estimated to increase more than fourfold to $200 billion by 2030, Tencent offers substantial long-term upside opportunity. (The Motley Fool owns shares of and has recommended Tencent Holdings.)