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Market Capitalization

Definition

Market capitalization is the market value of a publicly traded company's outstanding shares. Market capitalization is equal to the share price multiplied by the number of shares outstanding. As outstanding stock is bought and sold in public markets, capitalization could be used as an indicator of public opinion of a company's net worth and is a determining factor in some forms of stock valuation.

Market capitalization or market cap is the market value of a company’s outstanding shares. It is calculated by multiplying the mart price of one share with the outstanding shares of a company. This is used by investors to find out the size of the company instead of assessing the asset figures or the aggregate sales.

The company’s size helps in understanding the risk return parameters and asset allocation of stocks. It is important to know that one should not confuse market capitalization with a company’s capitalization because it is a financial statement that talks about the sum of a company's shareholders' equity and long term debt.

Calculating the Market Cap

An easy way to understand market capitalization is to take an example of a company that has 20 million shares outstanding, where the cost of each share is $10. The company’s market capitalization will be $200 million (20,000,000 x $10 per share).

Categories of Market Capitalization

The stocks are determined according to the size of the company and are referred to as small-cap, mid-cap, and large-cap. The categories of market capitalization are as follows:

  • Small Cap: Less than $2 billion.
  • Mid Cap: $2 billion to $10 billion.
  • Large Cap: Greater than $10 billion but under $200 billion.

Some of the lesser known categories are as follows:

  • Nano Cap: Less than $50 million.
  • Micro Cap: Between $50 million to $300 million.
  • Mega Cap: Over $200 billion.

These ranges are not absolute and tend to fluctuate with how the market is performing.

Why is Market Capitalization Important?

The price of the stock does not reflect the company’s size. This means that a higher stock price does not mean that the company is also large in size. If we compare companies according to their stock prices that would be a misinterpretation because it won’t reflect the true values that are affected by the amount of outstanding shares of a company.

The classification of the companies according to the caps allows investors to analyze the growth and study the risk potential. Markets are subjected to change, but it has been seen that large caps have low risks and slow growth, whereas small caps have high risk and a high growth potential.


Further Reading


Market capitalization and efficiency. Does it matter? Evidence from the Athens Stock Exchange
www.tandfonline.com [PDF]
The efficient market hypothesis (EMH) is tested in the case of the Athens Stock Exchange (ASE) after the introduction of the euro for three different indices. The underlying assumption is that stock prices would be more transparent; their performance easier to compare; the …

Stock markets, corporate finance, and economic growth: an overviewStock markets, corporate finance, and economic growth: an overview
www.jstor.org [PDF]
The efficient market hypothesis (EMH) is tested in the case of the Athens Stock Exchange (ASE) after the introduction of the euro for three different indices. The underlying assumption is that stock prices would be more transparent; their performance easier to compare; the …

Do market capitalization and stocks traded converge? New global evidenceDo market capitalization and stocks traded converge? New global evidence
www.sciencedirect.com [PDF]
The efficient market hypothesis (EMH) is tested in the case of the Athens Stock Exchange (ASE) after the introduction of the euro for three different indices. The underlying assumption is that stock prices would be more transparent; their performance easier to compare; the …

Stock market development and economic growth: The case of selected African countriesStock market development and economic growth: The case of selected African countries
onlinelibrary.wiley.com [PDF]
The efficient market hypothesis (EMH) is tested in the case of the Athens Stock Exchange (ASE) after the introduction of the euro for three different indices. The underlying assumption is that stock prices would be more transparent; their performance easier to compare; the …

Industry competitiveness using Herfindahl and entropy concentration indices with firm market capitalization dataIndustry competitiveness using Herfindahl and entropy concentration indices with firm market capitalization data
www.tandfonline.com [PDF]
The efficient market hypothesis (EMH) is tested in the case of the Athens Stock Exchange (ASE) after the introduction of the euro for three different indices. The underlying assumption is that stock prices would be more transparent; their performance easier to compare; the …

Market capitalization and Value-at-RiskMarket capitalization and Value-at-Risk
www.sciencedirect.com [PDF]
The efficient market hypothesis (EMH) is tested in the case of the Athens Stock Exchange (ASE) after the introduction of the euro for three different indices. The underlying assumption is that stock prices would be more transparent; their performance easier to compare; the …

The relationships between stock market capitalization rate and interest rate: Evidence from JordanThe relationships between stock market capitalization rate and interest rate: Evidence from Jordan
www.ceeol.com [PDF]
The efficient market hypothesis (EMH) is tested in the case of the Athens Stock Exchange (ASE) after the introduction of the euro for three different indices. The underlying assumption is that stock prices would be more transparent; their performance easier to compare; the …



Q&A About Market Capitalization


Why do investors use market capitalization instead of asset figures or aggregate sales?

Investors use market capitalization because it allows them to understand risk return parameters and asset allocation better than using other financial statements like net worth and long term debt.

What does it represent?

It represents the public opinion of a company's value.

How can you buy and sell shares in a public corporation?

You can buy and sell shares through the stock market.

What do you own when you own stock in a company?

You own part of the company.

Who decides what price to pay for stocks in a public corporation?

The market decides what price to pay for stocks in a public corporation.

What does market capitalization not reflect?

The price of a stock does not reflect the size of a company.

How are stocks classified according to their size?

Stocks are classified as small-cap, mid-cap, and large-cap based on their size.

What happens when you compare companies based on their stock prices rather than caps?

This would be a misinterpretation because it won't reflect true values that are affected by the amount of outstanding shares in a company.