7. What is Market Capitalization? – Part B

In the previous section, we explained some of the important terms like price per share and shares outstanding which are the building blocks of the word ‘Market Capitalization.’ In this section, we will learn about what Market Capitalization is and how is it relevant to financial markets in Pakistan.

Market Capitalization is a metric to measure the size of any company. It tells you the cost of purchasing every single share of a company at the existing market price.

Mathematically, Market Capitalization is:

$$ \text{Market Capitalization} = { $\text{Price per Share} \times \text{Shares Outstanding}$}$$

Consider a company called “Watch Z” involved in manufacturing and selling of wrist watches in Pakistan. The company is listed on the Pakistan Stock Exchange. On November 10th, 2018, the company had 80,000 shares outstanding and the price per share was Rs. 90 per share. The Market Capitalization of Watch Z on this date would have been 90 x 80,000 or Rs. 7,200,000. This reflects that if you were to buy all the issued shares of Watch Z at this date, it would have cost you approximately Rs. 7 million.   

7.1. Factors that affect Market Capitalization

  • Price of a stock changes as shares are traded on the Stock Market every day. Therefore, the Market Capitalization also changes very frequently.
  • Shares Outstanding also change but not as frequently as price of a stock. Actions that can impact Outstanding Shares include issuing more shares or buying back shares. Any change in Shares Outstanding will also impact the Market Capitalization of that stock.

7.2. Importance of Market Capitalization

Consider a scenario where you want to invest Rs. 1000 in either Watch Z or Time X which is also involved in selling wrist watches. The current price per share of Watch Z is Rs. 90 per share and that of Time X is Rs. 250 per share. You will choose Watch Z because it is cheaper!

However, the correct answer is that you don’t have enough information. Market Capitalization is one of the metrics that can help you compare two firms. Suppose Watch Z has 100,000 shares outstanding while Time X has 20,000 shares outstanding. The Market Capitalization of Watch Z and Time X would be Rs. 9 Million and Rs. 50 Million respectively. Despite a lower stock price of Rs. 90 per share, Watch Z has a higher Market Capitalization than Time X. That said, there are various other metrics other than Market Capitalization to compare two firms such as Revenue growth, Price to Earnings ratio or Earnings per Share.

In addition to that, Market Capitalization can also be used to measure the size of the entire stock market and compare it with other markets around the world. Just like Market Capitalization of firms, the Market Capitalization of Pakistan Stock Exchange also changes overtime. For example, on December 31st, 2015, the Market Capitalization of PSX was approximately Rs. 6.9 Trillion. As of November 11th, 2018, PSX Market Capitalization was noted to be Rs. 8.2 Trillion.

Have a look at the top 5 publicly traded companies by Market Capitalization in Pakistan. The Market Capitalization of the companies was calculated as of June 30th 2008, 2011 and 2018.