Market capitalization, or market cap, is a measure of a business entity's value. It is a formula that uses a company's stock price and the number of shares issued in the markets to determine a value. Factors that affect market cap include sharp changes the value of shares, either upward or downward, in addition to a change in the number of issued shares of stock. The primary reason for this kind of change, however, is tied to the stock price. If there is high demand in a stock, the market cap is likely to move higher, while weaker demand will hurt a company's value.
Market cap is calculated with a mathematical formula made up of the price of a stock multiplied by the total number of shares outstanding. The shares outstanding represent how much stock the company has in the public markets at a given time. A company issues shares in the financial markets during an initial public offering (IPO) or a secondary offering, transactions that companies use to raise money in capital markets.
Investor perception is a strong influence on market cap. If investors respond to a piece of bad news in fear that it will have a damaging, long-term impact on a business, the stock could be punished and lose value. The truth may be that the negative event was a one-time occurrence, but the investor already sold the stock. As a result, the market cap of a company will be affected downward.
Profits and revenues are a window into a company's financial health. Strong profitability expressed in a company's net income or earnings per share often drive a stock price higher as investors celebrate the growth. Alternatively, when a company disappoints investors with declining sales or a profit picture that is bleak, the stock price is positioned for losses. Subsequently, a company's balance sheet, where profits and revenues are recorded, is sure to affect market cap.
The financial markets are an organized place, and stocks are categorized in different ways, including by size and market cap value. Categories include small cap, mid cap, and large cap stocks, for instance. Size ranges for each category are defined differently by various market participants, but essentially, small cap stocks are among the companies in the public markets with the most room for growth. When a small cap stock grows further into its potential, it evolves to another classification, such as mid cap or even large cap status.