What is the price of the entire company?
When doing research, it is important that you look at more than just the current share price – you need to look at the price of the entire company. The “cost” of acquiring the entire corporation is called market capitalization (or market cap for short) and is frequently referred to by financial professionals. In short, the market cap is the price of all outstanding shares of common stock multiplied by the quoted price per share at any given moment in time. A business with one million shares outstanding and a stock price of $50 per share would have a market cap of $50 million.
This market capitalization test can help keep you from overpaying for a stock. Consider the case of eBay and General Motors during the heyday of the Internet era. At one point during the boom, eBay had the same market cap as the entire General Motors Corporation. To put that into perspective, in fiscal 2000, General Motors made $3.96 billion dollars in profit, while eBay made only $48.3 million (not including stock option expense!). Yet were you to buy either one, you would have had to pay the same amount. It is almost unbelievable that any sane investor would pay the same price for both companies but the general public was seduced by visions of quick profits and easy cash.
Another useful tool to help gauge the relative cost of a stock is the price to earnings ratio (or p/e ratio for short). It provides a valuable standard of comparison for alternative investment opportunities.
