How Can I Use Market Capitalization to Evaluate a Stock?

Market capitalization is a useful figure to examine when trying to understand a company's structure and profitability, and therefore a stock's value. It can be used to determine a variety of key performance metrics, including price-to-earnings and price-to-free-cash flow.

Market capitalization refers to the total dollar market value of a company's outstanding shares. Colloquially called "market cap," it is calculated by multiplying the total number of a company's shares by the current market price of one share. The investment community uses this figure to determine a company's size, and basically how the stock market is valuing the company.

Key Takeaways

  • Market capitalization is the total dollar value of all of a company's outstanding shares.
  • It's determined by multiplying the company's stock price by its total number of outstanding shares.
  • Investors can use market capitalization to assess the value of a stock they are considering buying.
  • Market capitalization is a key measure of profitability that is also used in equations to determine price-to-earnings and other significant metrics.
  • Market cap is generally broken down as micro cap, small cap, mid cap, large cap, and ultra or mega cap.

Performance Metrics That Use Market Cap

There are a number of popular valuation ratios that include market capitalization that investors should look at when considering buying a stock. These ratios include:

Generally, large-cap stocks are slower growth and therefore more likely to pay dividends than faster-growing, small- or mid-cap stocks.

Market Cap Types

There is no official barrier for different categories of stocks based on size, but large caps are often companies with market caps over $10 billion, while mid caps are $2 billion to $10 billion, and small caps are under $2 billion. There are further categories that investors will sometimes consider, such as micro caps, referring to small-cap stocks that are under $250 million, and ultra or mega cap stocks, which are large caps that are over $50 billion.

Market capitalization is used to set investor expectations and shape investment strategy. Different types of investment strategies focus on the various market cap groups, and different valuation methods are applied depending on company size. Very large market caps are usually associated with mature, low-growth companies that pay dividends. Small caps are often growth companies with higher-risk profiles and generally do not pay dividends.


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