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Most business owners can benefit from familiarising themselves with the language of traders. Even if their businesses are not yet publicly traded, this could happen in the future as a result of growth and expansion. What’s more, entrepreneurs can also benefit from trying their hands as traders. It’s easier than ever in the digital age, with a plethora of trading apps available to new investors. In any event, familiarity with terms like market capitalisation can benefit business owners.
Here we’ll define the term market capitalisation and provide some illustrative examples. We’ll also explain why it’s so important for business owners to know.
What is market capitalisation?
Market capitalisation (or market cap) is the most recent value of all your company’s outstanding shares, but not those that are “locked in”, such as those held by executives within the company. It’s used by investors to measure the size of your company in relation to your competitors. It also helps investors to identify the risk and return potential of your shares.
Essentially, market cap gives prospective investors a snapshot of your business and will influence how your company is seen by the investor community.
How is market capitalisation measured?
Investors use a simple formula to calculate your company’s market cap:
Investors use market capitalisation not only to get an overview of a company’s relative size, but also its growth potential. The price and scarcity of a company’s shares are indicative of its desirability and can bode well for future growth and good returns.
It’s important to note that market capitalisation does not measure a company’s equity value, because a share price is not an accurate reflection of how much a piece of the company is actually worth. Market cap also doesn’t factor in a company’s debts.
Market capitalisation categories
Market capitalisation allows investors to categorise businesses within a certain industry by size. These range from micro cap (between £50 million and £300 million) to mega cap (over £200 billion).
In descending order, these are:
Mega cap – More than £200 billion
Large cap – Between £10 billion and £200 billion
Mid cap – Between £2 billion and £10 billion
Small cap – Between $300 million and $2 billion
Micro cap – Between $50 million and $300 million
Most of the best known companies on the planet are large caps, and most companies tend to fall into the categories of large, mid and small cap. As such, these are where most investors focus their attention.
Market capitalisation example
Let’s clarify the concept of market cap with an illustrative example.
At the end of 2020, the Coca-Cola Company had around 4.3 billion shares of stock outstanding. This stock traded at $53.74 per share. As such, if an (absurdly wealthy) investor wanted to buy the whole world’s supply of available Coca-Cola stock, they would need to buy 4.3 billion shares at $53.74. That’s a little over $231 billion. So market analysts and investors would value the Coca-Cola Company’s market cap at $231 billion, making it a mega-cap company.
How investors use market capitalisation
As we’ve established, market capitalisation has its limitations but it can be a very useful tool for investors. And it also gives business owners and board members an insight into how their company will be perceived by investors.
Investors use market cap not just to gauge a business’ size. They will also keep an eye on issues that might affect market cap, such as falling share prices, or an increase in the exercising of warrants that would make more shares available (and potentially drive share prices down).
We can help
If you’re interested in finding out more about market capitalisation, investors, or any other aspect of business finances then get in touch with our financial experts. Find out how GoCardless can help you with ad hoc payments or recurring payments.