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The Times 100: The Best Performing Companies in California

For What It's Worth : Knowing a company's 'market cap' and measuring it against other indicators can help you decide which stocks to buy or sell.

May 07, 1996|JAMES F. PELTZ | TIMES STAFF WRITER

There's an old Wall Street saw that you don't buy or sell a stock based on its price but rather on its value. It's a maxim that also holds true when understanding the market capitalization leaders of The Times 100.

A company's market value--also known as capitalization, or "market cap"--is calculated simply by multiplying its stock price by its number of total shares outstanding. It's a company's overall worth as measured by the market, and the largest corporations in terms of sales naturally tend to have big market caps as well because they typically have millions of shares outstanding.

Indeed, market cap gauges a company's relative size in the securities marketplace. Many institutional investors won't bother trading stocks of companies that don't meet a minimum market cap of, say, $100 million. Other money managers do the opposite: They specialize in trying to find winners in the "small cap" arena.

A big market cap also signals that there are ample shares in the marketplace so that an investor can buy or sell quickly, said Philippe Jorion, a finance professor at UC Irvine's Graduate School of Management.

"High market capitalization stocks also typically have options" on the stocks that are available for trading, he noted.

But generally, it's when a company's market cap is measured against other indicators--the company's book value, for instance, or its business prospects or the average market cap of stockstocks overall--that the figure begins to take shape as a useful tool for deciding which issues to buy or sell.

The historic bull market on Wall Street during the past year has sent the market caps of most stocks sharply higher and raised the capitalizations of Times 100 members by about one-third on average.

The two stocks with the largest caps--Intel and Hewlett-Packard--held the same rankings as they did the previous year, but their market caps were much higher because of the market's rally. Intel's cap rose 37% and Hewlett-Packard's soared 61%.

Does that mean those stocks are now too expensive and should be avoided?

Well, consider Chevron Corp., No. 4 in market cap, up 24% from last year to $36.4 billion. Now compare that to Chevron's book value--that is, the value of the assets as listed on its books minus its debts, a figure also known as stockholders' equity.

Chevron's market cap is 253% of its book value of $14.4 billion, or, to put it another way, its market value is about 2.5 times its book value. Does that sound like a lot? Well, it's actually cheap relative to the overall market.

The ratio of market cap to book value for the Standard & Poor's 500 industrial stocks is currently averaging 387%, and it's 424% for the Dow Jones average of 30 industrials. So by this measure, at least, Chevron is trading at a discount relative to the broader market.

In turn, one might suppose Intel's market cap is extraordinarily high compared to the market, because computer-chip and other high-technology stocks have skyrocketed of late. Yet Intel's market cap is about 4.5 times its book value--not much higher than the ratio of the Dow Jones industrials.

And one high-technology veteran, Advanced Micro Devices, has a market cap 10% below its book value.

That doesn't mean Chevron, Intel and AMD are necessarily screaming buys. Investors also should examine several other factors. For example, if a company has recently borrowed heavily to make an acquisition, that's likely to shrink its book value and consequently widen its market cap-to-book value ratio.

Investors also should be weighing the business prospects of the companies, and here again market caps come into play.

A rising market cap fundamentally reflects investors' expectations that a company's prospects are improving, that its sales and profits will increase down the road and that its stock therefore commands a higher price than before.

(As for The Times 100, their prospects aren't directly tied to the strengthening conditions in California's economy, though the Golden State's rebound certainly helps. Although they are based in California, companies like Atlantic Richfield and Rockwell International are multinational concerns, after all.)

But what distinguishes one company from another is how quickly its sales and profits are expected to grow and how much it will grow in that period. And by comparing the companies' market caps against their sales and profits, it becomes much easier to see which firms are currently high fliers--some would say speculative--and which are more seasoned, steady enterprises.

A case in point in this Times 100 chart: Netscape Communications, the little Mountain View-based software firm. After being offered publicly at $14 a share in August (adjusted for a 2-for-1 split since then), Netscape has soared above $60 a share, giving it a market cap of $4.3 billion in the Times 100 Market Capitalization list, which is based on values on April 19. It closed at $56.50 on Friday, May 3.

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