For example, a stock with a $5 stock price and 10 million shares outstanding/ trading is worth $50 million ($5 x 10 million). If we take this one step further, we can see that a company that has a $10 stock price and one million shares outstanding (market cap = $10 million) is worth less than a company with a $5 stock price and 10 million shares outstanding (market cap = $50 million). Thus, the stock price is a relative and proportional value of a company’s worth and only represents percentage changes in market cap at any given point in time. Any percentage changes in a stock price will result in an equal percentage change in a company’s value. This is the reason why investors are so concerned with stock prices and any changes that may occur since even a $0.10 drop in a $5 stock can result in a $100,000 loss for shareholders with one million shares.
The next logical question is: Who sets stock prices and how are they calculated? In simple terms, the stock price of a company is calculated when a company goes on sale to the public, an event called an initial public offering. This is when a company will pay an investment bank a lot of money to use very complex formulas and valuation techniques to derive a company’s value by determining how many shares will be offered to the public and at what price. For example, a company whose value is estimated at $100 million may want to issue 10 million shares at $10 per share or they may want to issue 20 million at $5 a share.
As we saw in the example with Apple, a company’s value is dependent on how much the company can grow its earnings in the future.
