Market Capitalization vs. Equity: An Overview
Two of the most common ways of assessing a company's value are market capitalization and equity (also known as shareholder equity). Each term describes a different way of looking at a company's value. It is helpful to consider both to get the most accurate picture of a company's worth.
Market capitalization is the total dollar value of all outstanding shares of a company. It is calculated by multiplying the current share price by the number of outstanding shares. Market analysts commonly use this figure to designate a company's size, as many stock market indexes are weighted by market capitalization. Because market capitalization is dependent on share price, it can fluctuate greatly from month to month, or even from day to day.
Market capitalization does not measure the equity value of a company. Only a thorough analysis of a company's fundamentals can do that. Shares are often overvalued or undervalued by the market, meaning the market price determines only how much the market is willing to pay for its shares.
Although it measures the cost of buying all of a company's shares, the market cap does not determine the amount the company would cost to acquire in a merger transaction. A better method of calculating the price of acquiring a business outright is the enterprise value.
Shareholder equity is considered a more accurate estimate of a company's actual net worth. Equity is a simple statement of a company's assets minus its liabilities; it could also be seen as the net profit that would remain if the company was sold or liquidated at fair value. Unlike market capitalization, equity does not fluctuate day to day based on stock price.
Equity represents the true value of one’s stake in an investment. Investors who hold stock in a company, for example, are usually interested in their personal equity in the company, represented by their shares. Yet, this kind of personal equity is directly tied to the company's total equity, thus a stockholder will also have a concern for the company's earnings. Owning stock in a company over time will ideally yield capital gains for the shareholder and potentially dividends. A shareholder may also get the right to vote in board of directors' elections. These benefits further promote a shareholder’s ongoing interest in the company.
Market capitalization value is nearly always greater than equity value since investors figure in factors such as a company's expected future earnings from growth and expansion. It can be helpful to make an historical comparison between market capitalization value and equity value to see if there is a trend one way or the other.
If market capitalization has grown steadily higher and further above equity value, this indicates increased confidence on the part of investors.
Both market capitalization and equity can be found by looking at a company's annual report. The report shows the number of outstanding shares at the time of the report, which can then be multiplied by the current share price to obtain the market capitalization figure. Equity appears on the company's balance sheet.
- Market capitalization is the total dollar value of all outstanding shares of a company.
- Equity is a simple statement of a company's assets minus its liabilities.
- It is helpful to consider both equity and market capitalization to get the most accurate picture of a company's worth.