Share price vs company value

What this lesson covers

• What a share price represents
• Why a higher-priced share does not always mean a more valuable company
• What market capitalisation means
• How to calculate company value using share price and shares outstanding
• Why investors should look beyond the share price when comparing companies

The one line to remember: one slice is not the whole pizza. Comparing two share prices without asking how many shares exist is like comparing the price of one slice without asking how many slices make up each pizza.

The three pieces, in order

The share price on its own does not tell you how many shares exist, what the whole company is worth, or whether the stock is fairly valued. It is one part of the picture.

Two companies can hold the same total value while showing very different share prices, simply because they divided that value across different numbers of shares. Fewer ownership pieces can mean a higher price per share. More pieces can mean a lower one. Nothing about that makes either company bigger or better.

A worked example

Two companies. Look at the share prices first and decide which you think is the larger business.

Company A has the lower share price and five times the market capitalisation. So we cannot call Company A cheaper simply because one share costs less. A lower price per share does not mean lower company value.

In the video I also show this on a live finance site, pointing to the current share price first and then finding the market cap in the summary figures. Both change with the market, but they answer different questions. Share price asks what one share costs today. Market cap asks what value the market places on all the company’s shares together.

What market cap does not tell you

Market cap is useful for understanding the size of a company and for broad comparisons between listed companies. It is a starting point for further research, not a complete valuation. On its own it does not tell you:

• Whether the company is profitable
• Whether revenue or cash flow is growing
• Whether debt is too high
• Whether investors are paying too much

Three ideas to carry forward: share price is the price of one share; shares outstanding is the number of ownership units; share price × shares outstanding is market capitalisation. $10 is not automatically cheap, and $100 is not automatically expensive.

Where to go next

If you’d like to see these ideas applied to real companies and real results, How Markets Think is where I write that up each week — earnings, deals and market moves, explained in plain English.