What is market capitalization? A company’s worth or its total market value is market capitalization or market cap. We can calculate it by multiplying the company’s stock price by the number of shares outstanding.
As we know, the stock price is a relative and proportional value of a company’s worth. Thus, it only represents a percentage change in a company’s market capitalization at a certain time.
Additionally, any percentage of stock price changes will cause an equal percentage difference in a company’s market capitalization. This is one of the main reasons why investors are so worried about stock prices. For instance, a $0.10 decline in the stock price can result in a $100,000 loss for a shareholder with one million shares.
How can we determine the share price?
The interesting question is, how can we determine the share price. Supply and demand drive the stock market prices. Hence, the stock market, similar to other economic markets.
When buyers and sellers trade the stock, they exchange money for shares. Notably, the ‘buy’ price for the stock becomes the new market price. Once a second share sells again, this price becomes the latest market price, etc.
Furthermore, to forecast the price of a company’s shares, we can use specific quantitive techniques and formulas like the dividend discount model. Significantly, they serve the idea that a stock’s currency price equals the sum total of all its future dividend payments.
Furthermore, in simple terms, a company’s market capitalization is calculated by multiplying its share price by the number of shares outstanding.
A company’s market cap is first set in an event called an initial public offering. During this process, a company pays a third party to use very complicated formulas and valuation techniques to determine its value. They also calculate how many shares they will offer to the public and at what price. For example, a company whose value is $100 million may want to issue 10 million shares at $10 per share.
If there is a high demand, the price will boost
Furthermore, after a company goes public and its shares start selling on a stock exchange. We can calculate the share price by supply and demand for its shares in the market. This means that if there is a high demand for its shares, the price will boost. However, if the company’s future growth potential does not seem reasonable, sellers of the stock can decline its price.
For instance, if Microsoft is trading for $71.41 on a particular day and has 7.7 billion shares outstanding, we can determine its value. To do so, we multiply its share price by the number of shares outstanding, which equals $550 billion ($74.41 x 7.7 billion). Additionally, Facebook, which has a $167.40 stock price and 2.37 billion shares outstanding, has a $397.7 billion market cap. Therefore, we can say that it is less valued than Microsoft.
Only a total analysis of fundamentals can determine the company’s equity value
Even though it often describes a company, the market cap does not measure its equity value. We can determine the company’s equity value by only a total analysis of a company’s fundamentals. Market capitalization is an incomplete way to value a company as its market price does not show how much the business is worth. Furthermore, the market often overvalues or undervalues the shares. The market price discovers only how much the market is willing to pay for its shares and not its worth.
It is essential to know that a market cap refers only to a company’s equity market value, not its market value overall. It can include the value of its debt or assets.