Adjusted Closing Price: Explained

What is the Adjusted Closing Price?

Stock prices typically move up and down in every trading session. They have an opening price, high, low, and closing price for each day. The closing price of a stock is the price at which it ends the trading session. It is the price of the last trade of that stock. Then why is an ‘Adjusted Closing Price’ required? This is because certain events end up changing the stock’s price.

A stock’s price is influenced by supply and demand dynamics. There are certain corporate actions such as dividend declaration, stock split, and the issue of bonus shares that end up causing a variation in price. The Adjusted Closing Price helps investors know the fair value of the stock after the corporate action is announced and also helps maintains an accurate record.

The Adjusted Closing Price takes into account the effect of the corporate action and therefore also helps investors know that it is accounted for in the price movement. When an investor looks at the historic price action to evaluate returns, the Adjusted Stock Price gives a more refined representation of the share price.

Types of Adjustments

1. Adjustment for Dividend: When a company declares a dividend, it is basically rewarding the shareholders while keeping the value of their investments the same. While shareholders reap the benefit of cash rewards from the company, the value of each share drops as equity gets diluted. Sometimes dividends can also come in the form of extra shares (bonus shares). So, the Adjusted Closing Price here is lower than the closing price before dividend disbursal.
2. Adjustment for Stock Split: A company announces a stock split if it intends to make its shares more pocket friendly for investors. This does not mean that the market capitalisation varies as the Adjusted Closing Price kicks in after the equity split. The new price depends on the equity split ratio determined by the company.
3. Adjustment for Rights Issue: Unlike a bonus issue, which is basically just a reward for the investors, a rights issue is a method of raising capital for the company. Hence, it comes at a cost which is typically a discounted value compared to the market price of that stock. The company decides a ratio in which new shares are issued and then calculates the Adjusted Closing Price accordingly.

How to Calculate Adjusted Closing Price?

The adjustment in closing price differs for different corporate actions, which is why the calculations are not the same for all. The easiest way to understand the adjustment is through examples so let’s see how each event impacts the Adjusted Closing Price of the stock.

1. Let’s say that a stock is trading at ₹100 and the company declares a dividend of ₹10. The Adjusted Closing Price following this announcement will be ₹90 as the dividend reward gets factored into the price.
2. A similar effect is seen on the Adjusted Closing Price when the company issues bonus shares. If the company issues a 2:1 bonus, you get 2 bonus shares for every share owned. So, if you own 10 shares of the company, you get 20 more shares making you an owner of 30 shares in total. Since 1 share became 3 shares, the Adjusted Closing Price becomes ₹33.33.
3. Similarly, the effect on the Adjusted Closing Price changes when the company announces an equity split. If the same share of ₹100 is split in a 1:5 ratio, the Adjusted Closing Price after the stock split becomes ₹20 as each share was split into 5 shares.
4. When a company announces a rights issue, at a ratio of 1:2, you can subscribe to 1 additional share for every 2 shares owned. So, if you own 10 shares, you can subscribe to 5 more shares. These shares are issued at a discount so you may get the additional shares for ₹90. The Adjusted Closing Price is then computed based on the adjustment factor used. Since equity is diluted here the Adjusted Closing Price will be lower than ₹100. (You should note that in a rights issue, you are paying to acquire shares whereas a bonus issue is free of cost.)

Advantages of Adjusted Closing Price

There are 2 major advantages of having an Adjusted Closing Price:

1. A price that factors in the effect of a corporate event present a more accurate picture of its impact on the share value. An Adjusted Closing Price thus helps investors correctly estimate the return they made on their investment. Even a ₹1 adjustment on 1 lakh shares can mean a difference in calculated returns to the tune of ₹1 lakh. This makes adjustments a critical part of stock valuation.
2. Another important advantage is a fairer comparison between different stocks in terms of performance. Apart from indicating the correct value of a stock, Adjusted Closing Price enables you to infer the right things when performing a comparative analysis among peers or even the industry benchmarks.

Overall, knowing the Adjusted Closing Price is essential for investors to accurately track the performance of a stock over time, taking into account corporate actions such as stock splits, dividends, and mergers. It helps investors obtain a more accurate picture of the value of their investments and make informed investment decisions.