<FOOLISH FOUR PORTFOLIO>
GM Split
Calculating a cost basis for Delphi
by Ann Coleman (TMF [email protected])
Reston, VA (June 1, 1999) -- Last week, Foolish Four stock General Motors <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: GM)") else Response.Write("(NYSE: GM)") end if %> spun off its parts division, Delphi Automotive Systems <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: DPH)") else Response.Write("(NYSE: DPH)") end if %>, into a separate entity, giving GM stockholders 0.69893 shares of DPH for every share of GM that they owned.
Since GM was a Foolish Four stock for much of last year, many investors are still holding those shares. In a day or two, new shares of Delphi will be arriving in their brokerage accounts, along with a cash deposit for any "fractional" shares. (When you multiply by 0.69893, you rarely get whole number answers. The remainder is paid out in cash.)
There are lots of ways to complicate spin-offs, but let's not. First, all Foolish Four investors who are holding GM can just sit tight. Remember, this is a once-a-year strategy. You don't have to do anything until your renewal date, at which point you simply sell the DPH shares and reinvest the money in next year's Foolish Four. The cash for the fractional share you can treat as a dividend -- let it sit. No muss, no fuss.
In fact, if you are holding GM/DPH in a tax-advantaged retirement account, that's really all you need to know about the spin-off, although you can read more about it here if you like.
If your shares are in a non-tax advantaged account, you will have to worry about paying the capital gains tax on them when you sell. That means you have to have a "cost basis" for those shares. For most people, "cost basis" is what they paid for the shares when they bought them, adjusted for commissions and splits. But Delphi shares were never "purchased." So how do you know what your cost basis is?
The process might be simpler if we think about what a share of stock actually is. It represents a percentage ownership in a company -- a very small percentage, but ownership nonetheless. Think of it as a deed to a piece of property. Say five acres that slope gently to the south with big trees and a sun-dappled creek.... Whoa, there, back to reality. OK. Say you bought this property with four other people. You own 20% of the property -- That doesn't mean you own one specific acre, it means you own a 20% interest in the whole parcel, right?
Now, as a group, you decide to subdivide the property. You file the papers and do whatever your county requires to create a 1/2 acre building lot. Now you own 20% of the original 4.5 acres and 20% of the building lot. When the lot is sold, you receive 20% of the proceeds -- on which you have to pay capital gains tax, by the way. OK, how to you figure out the cost basis of that building lot?
I think you can see the point here, so let's switch back to GM. When you bought GM last year, you bought Delphi as well, it just wasn't identified that way -- just like the building lot was part of the 5-acre parcel.
The fact that GM and Delphi are now "uncoupled" doesn't really change the fact that you bought it as part of a package deal when you bought your original GM stock. When you think about it that way, it's obvious that, first of all, your purchase date for Delphi is not May 28, the day of the spin-off, but whatever date you bought GM, and your cost basis for Delphi would not be what the shares were selling for on the day of the spin-off but what Delphi was worth, as a part of GM, on the day you bought GM.
This works to your advantage on the purchase date. Say you bought GM on May 25, 1998. You receive your Delphi shares next Friday, one week after the spin-off. You could sell Delphi immediately and pay tax on the gain at long-term rates, because you will have actually owned Delphi since May 25, 1998, even though the shares have only been in your account for one day.
This idea may seem less advantageous when you go to calculate your cost basis for Delphi, however. The more a stock has gone up since you bought it, the more capital gains you have to pay taxes on. It might be to your advantage to be able to use Delphi's cost on the day of the spin-off when you calculate your capital gain, but it wouldn't be accurate. Remember, you've owned Delphi since you bought GM, and you need to calculate your cost basis as of that day.
Also, you need a new cost basis for GM. You can't use the price you paid for GM as your cost basis, because that price included Delphi.
Here's what you do conceptually (we'll do the math in a minute). You look at the combined prices of Delphi and GM on the day the split occurred to figure out what percentage of GM Delphi represents. Then you apply that percentage to the price per share that you paid for GM when you first bought it. That gives you your cost basis for Delphi and your new cost basis for GM.
Here's how the math works:
On the day of the spin-off, GM closed at $69.
Delphi closed at $19 5/8.
Prior to the spin-off, each share of GM included 0.69893 shares of Delphi, so the value of the piece of Delphi stock that was bundled with each GM share was $19.625 * 0.69893 = $13.7165.
The combined value of GM and Delphi at the end of the first day of trading after the split was $69.00 + $13.72 = $82.7165.
GM's percentage of the combined entity is $69.00 / $82.7165 = 83.4175%.
Delphi's percentage of the combined entity is $13.7165 / $ 82.7165 = 16.5826%.
Now you just find your original cost (including commission) for your GM stock and multiply by 0.165826 to get the cost basis of the Delphi portion and by 0.834175 to get the new cost basis for the GM portion. Remember, the ratio of GM to Delphi was 1:0.69893. To get the cost basis for a full share of Delphi, divide the cost basis of the Delphi portion by 0.69893. If you bought GM at different times, you have to do the same thing for each lot.
There are other more complicated ways to do it... Nah.
Or you can wait for the company to send out an information packet on the spin-off that will provide you with the percentages that they have calculated and plug those into your original cost basis. That's what I would do.
(A huge, Foolish thanks to Todd Beaird, [email protected], for help with this. Any remaining errors are my own.)
NOTE: Today is the deadline for Foolish Four Invitational entries. (You have until midnight, so get goin'!) I hope you are having as much fun writing them as I am reading them. You guys are a pretty clever lot. We are well over the 50 entries I knew I could handle easily (right now I have more than 50 that are really good!), so I will announce the winners one week from Friday. That's June 11. There will be lots of winners.
Instant Foolish Four Update: Our instant stock list generator, Strategy Stocks Live, is ready to step into its rightful place as the replacement for Today's Stock Lists. Thanks to all of you who tested it and offered suggestions for improvement, most of which we have implemented. Before we switch from our old familiar Today's Stock Lists page to the new, improved version, I'd like to take just a few days to test the latest version, which was released just today. So if you are of a mind to, please feel free play with it, try to break it, look for flaws, and let me know if you find any. Oh, and remember, Strategy Stocks Live also generates Beating the S&P stock lists.
Fool on and prosper!
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Stock Change Last
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CAT +3 7/8 58.75
JPM -5 13/16 133.50
MMM +2 7/16 88.19
IP +2 3/4 52.75
Day Month Year History
FOOL-4 +2.75% 2.75% 24.75% 26.61%
DJIA +0.35% 0.35% 15.80% 15.34%
S&P 500 -0.58% -0.58% 5.61% 5.86%
NASDAQ -2.37% -2.37% 10.00% 11.51%
Rec'd # Security In At Now Change
12/24/98 24 Caterpillar 43.08 58.75 36.37%
12/24/98 9 JP Morgan 105.51 133.50 26.53%
12/24/98 22 Int'l Paper 43.55 52.75 21.13%
12/24/98 14 3M 73.57 88.19 19.87%
Rec'd # Security In At Value Change
12/24/98 24 Caterpillar 1034.00 1410.00 $376.00
12/24/98 9 JP Morgan 949.62 1201.50 $251.88
12/24/98 14 3M 1030.00 1234.63 $204.63
12/24/98 22 Int'l Paper 958.12 1160.50 $202.38
Dividends Received $29.45
Cash $28.26
TOTAL $5064.34