What are the Sensex & the Nifty?

The Sensex is an "index". What is an index? An index is basically an indicator. It gives you a general idea about whether most of the stocks have gone up or most of the stocks have gone down. The Sensex is an indicator of all the major companies of the BSE. The Nifty is an indicator of all the major companies of the NSE. If the Sensex goes up, it means that the prices of the stocks of most of the major companies on the BSE have gone up. If the Sensex goes down, this tells you that the stock price of most of the major stocks on the BSE have gone down. Just like the Sensex represents the top stocks of the BSE, the Nifty represents the top stocks of the NSE. Just in case you are confused, the BSE, is the Bombay Stock Exchange and the NSE is the National Stock Exchange. The BSE is situated at Bombay and the NSE is situated at Delhi. These are the major stock exchanges in the country. There are other stock exchanges like the Calcutta Stock Exchange etc. but they are not as popular as the BSE and the NSE.Most of the stock trading in the country is done though the BSE & the NSE. Besides Sensex and the Nifty there are many other indexes. There is an index that gives you an idea about whether the mid-cap stocks go up and down. This is called the BSE Mid-cap Index. There are many other types of indexes. There is an index for the metal stocks. There is an index for the FMCG stocks. There is an index for the automobile stocks etc. If you are interested in knowing how the SENSEX is actually calculated...you must check-out our "How to calculate BSE SENSEX?" article! But, before we go ahead and try to understand "How to make money in the stock market?" you MUST read the next page....

How to calculate BSE SENSEX?

Requested by: Lt Col Ashis Kumar Mishra
This article explains how the value of the BSE Sensex or sensitive index is calculated. If you are not sure what we mean by the Sensex or what the Sensex is all about, you can find this out by reading our How to make money in the stock market? article. The Sensex has a very important function. The Sensex is supposed to be an indicator of the stocks in the BSE. It is supposed to show whether the stocks are generally going up, or generally going down.

To show this accurately, the Sensex is calculated taking into consideration stock prices of 30 different BSE listed companies. It is calculated using the free-float market capitalization method. This is a world wide accepted method as one of the best methods for calculating a stock market index. Please note: The method used for calculating the Sensex and the 30 companies that are taken into consideration are changed from time to time. This is done to make the Sensex an accurate index and so that it represents the BSE stocks properly. To really understand how the Sensex is calculated, you simply need to understand what the term free-float market capitalization means. (As we said earlier, the Sensex is calculated on basis of the free-float market capitalization method) But, before we understand what free-float market capitalization means, you first need to understand what market capitalization means.

What is "market capitalization"?

You probably think that you have never heard of the term market capitalization before. You have! When you are talking about mid-cap, small-cap and large-cap stocks, you are talking about market capitalization! Market cap or market capitalization is simply the worth of a company in terms of its shares! To put it in a simple way, if you were to buy all the shares of a particular company, what is the amount you would have to pay? That amount is called the market capitalization! To calculate the market cap of a particular company, simply multiply the current share price by the number of shares issued by the company! Just to give you an idea, ONGC, has a market cap of Rs.170,705.21 Cr (when this article was written) Depending on the value of the market cap, the company will either be a mid-cap or large-cap or smallcap company! Now the question is, how do YOU calculate the market cap of a particular company? You dont! Just go to a website like MoneyControl.com and look up the company whose market cap you are interested in finding out! The figure in front of Mkt. Cap will be the market cap value. Having seen what market cap is and how to find out the market cap of a particular company, let us try to understand the concept of free-float market cap

What is "free-float market capitalization"?

Many different types of investors hold the shares of a company! The Govt. may hold some of the shares. Some of the shares may be held by the founders or directors of the company. Some of the shares may be held by the FDIs etc. etc! Now, only the open market shares that are free for trading by anyone, are called the free-float shares. When we are calculating the Sensex, we are interested in these free-float shares! A particular company, may have certain shares in the open market and certain shares that are not available for trading in the open market. According the BSE, any shares that DO NOT fall under the following criteria, can be considered to be open market shares:

Holdings by founders/directors/ acquirers which has control element Holdings by persons/ bodies with "controlling interest" Government holding as promoter/acquirer Holdings through the FDI Route Strategic stakes by private corporate bodies/ individuals Equity held by associate/group companies (cross-holdings) Equity held by employee welfare trusts Locked-in shares and shares which would not be sold in the open market in normal course.

A company has to submit a complete report about who has how many of the companys shares to the BSE. On the basis of this, the BSE will decide the free-float factor of the company. The free-float factor is a very valuable number! If you multiply the "free-float factor" with the market cap of that company, you will get the free-float market cap which is the value of the shares of the company in the open market! A simple way to understand the free-float market cap would be, the total cost of buying all the shares in the open market! So, having understood what the free float market cap is, now what? How do you find out the value of the Sensex at a particular point? Well, its pretty simple. First: Find out the free-float market cap of all the 30 companies that make up the Sensex! Second: Add all the free-float market caps of all the 30 companies! Third: Make all this relative to the Sensex base. The value you get is the Sensex value! The third step probably confused you. To understand it, you will need to understand ratios and proportions from 5th standard mathematics. Think of it this way: Suppose, for a free-float market cap of Rs.100,000 Cr... the Sensex value is 4000

Then, for a free-float market cap of Rs.150,000 Cr... the Sensex value will be..

So, the Sensex value will be 6000 if the free-float market cap comes to Rs.150,000 Cr! Please Note: Every time one of the 30 companies has a stock split or a "bonus" etc. appropriate changes are made in the market cap calculations. Now, there is only one question left to be answered, which 30 companies, why those 30 companies, why no other companies? The 30 companies that make up the Sensex are selected and reviewed from time to time by an index committee. This index committee is made up of academicians, mutual fund managers, finance journalists, independent governing board members and other participants in the financial markets.

The main criteria for selecting the 30 stocks is as follows:

Market capitalization: The company should have a market capitalization in the Top 100 market capitalizations of the BSE. Also the market capitalization of each company should be more than 0.5% of the total market capitalization of the Index. Trading frequency: The company to be included should have been traded on each and every trading day for the last one year. Exceptions can be made for extreme reasons like share suspension etc. Number of trades: The scrip should be among the top 150 companies listed by average number of trades per day for the last one year. Industry representation: The companies should be leaders in their industry group. Listed history: The companies should have a listing history of at least one year on BSE. Track record: In the opinion of the index committee, the company should have an acceptable track record. Having understood all this, you now know how the Sensex is calculated.

Price to earning (P/E) ratio & what it means?

If there is one number that people look at than more any other number, it is the Price to Earning Ratio (P/E). The P/E is a ratio that investors throw around with confidence as if it told the complete story. Of course, it doesnt tell the whole story (if it did, we wouldnt need all the other numbers.) The P/E looks at the relationship between the stock price and the companys earnings. The P/E is the most popular stock analysis ratio, although it is not the only one you should consider. You calculate the P/E by taking the share price and dividing it by the companys EPS (Earnings Per Share that we saw above) P/E = Stock Price / EPS For example: A company with a share price of Rs.40 and an EPS of 8 would have a P/E of: (40 / 8) = 5

What does P/E tell you?

Some investors read a high P/E as an overpriced stock. However, it can also indicate the market has high hopes for this stocks future and has bid up the price. Conversely, a low P/E may indicate a vote of no confidence by the market or it could mean that the market has just overlooked the stock. Many investors made their fortunes spotting these overlooked but fundamentally strong stocks before the rest of the market discovered their true worth. In conclusion, the P/E tells you what the market thinks of a stock. It tells you whether the market likes or dislikes the stock. If things are vague and unclear to you, do not worry. The next ratio will make everything you read till now make sense..

Earnings per share (EPS) ratio & what it means!

Even comparing the earnings of one company to another really doesnt make any sense, if you think about it. Earnings will tell you nothing about how many shares the company has. Because you do not know how many shares a company has, you do not know how many parts that companies earnings have to be divided into. If the company has more shares, the earnings will be divided into more parts. For example, companies A and B both earn Rs.100, but company A has 10 shares outstanding, so each share holder has in effect earned Rs.10. On the other hand, if company B has 50 shares outstanding and they too have earned Rs.100 then each shareholder has earned Rs.2. So you see it is important to know what is the total number of outstanding shares are as well as the earnings. Thus it makes more sense to look at earnings per share (EPS), as a comparison tool. You calculate earnings per share by taking the net earnings and divide by the outstanding shares. EPS = Net Earnings / Outstanding Shares So looking at the EPS ratio, you should go buy Company A with an EPS of 10, right? EPS is not the only basis of comparing two companies, but it is one of the methods used. Note that there are three types of EPS numbers:

Trailing EPS last years numbers and the only actual EPS Current EPS this years numbers, which are still projections Forward EPS future numbers, which are obviously projections

EPS doesnt tell you whether its a good stock to buy or what the market thinks of it. For that information, we need to look at some other ratios next....

Introduction
Here we have provided a huge guide that will give you an introduction to every aspect of starting a company. We have covered: screening business ideas, making a business plan, marketing, forming business objectives, making the right legal decisions etc. etc. If you are interested only in the legal process involved in starting up a business like a Partnership or Public or Private Limited Company or a "Sole Proprietorship", we have a separate article for the same called How to incorporate?

Do you have what it takes to start a company?

If you pick up any book on being an entrepreneur, the first chapter will be about, Do you have what it takes to start a company? The point all these books are trying to make is, It is not easy to start a company! It is positively difficult to be an entrepreneur. Most people dont want to take the risk to start a new company because they are afraid of things like:

What if I fail? What if it does not work? What if I go bankrupt? etc. etc.

People, who work past these initial fears and decide to go ahead and start a company, have to be prepared to really work for it. It is difficult to start a company and most people quit on the way. There will be many things that de-motivate you when you go about starting your company. If you seriously want to start a company be ready to work very very hard for it! Next we have explained how you can pick the best possible "business idea" for your new company....

Understanding joint stock companies (Private & Public Limited)

In a partnership, there can be a maximum of 20 people. Because of this limit, the amount of capital that can be generated is limited. Also, because of the unlimited liability of partnerships, the partners may be discouraged from taking huge risks and further expanding their business. To overcome these problems a public or a private company may be formed. Private and public companies are much better investments because of Limited liability. This means that if an investor has invested Rs.1000/- in a particular company, and the company goes bankrupt, the investor only looses the money he has invested. To pay of the debt, the investors property, bank accounts etc. are "not" used. Because of this limited liability, many investors are interested in investing in these private or public companies. Hence, a large capital can be generated and a huge business can be run. The major disadvantage of Private and Public companies, is that they have a costly and elaborate process of setting up. They are also closely regulated by the government.

So what are Public or Private companies?

These companies are also know as joint stock companies. The companies in India are governed by the Indian Companies Act, 1956. The Act defines a company as an artificial person created by law, having a separate legal entity, with perpetual succession and a common seal. What this means is that, the company is different from the investors. The investors put in money and capital is raised. But the company is treated as a virtual person. The company is treated as a person who is different from its investors. The company has an identity of its own. If some one sues the company, he does not sue the investors, he sues the virtual person that is the company. To understand the concept of joint stock (private and public limited) companies, consider the following characteristics: Legal formation: No single individual or a group of individuals can start a business and call it a joint stock company. A joint stock company can come into existence only when it has been registered after completion of all the legal formalities required by the Indian Companies Act, 1956. Artificial person: Just like an individual takes birth, grows, enters into relationships and dies, a joint stock company takes birth, grows, enters into relationships and dies. However, it is called an artificial person as its birth, existence and death are regulated by law. Separate legal entity: Being an artificial person, a joint stock company has its own separate existence independent of its investors. This means that a joint stock company can own property, enter into contracts and conduct any lawful business in its own name. It can sue and can be sued by others in the court of law. The shareholders are not the

owners of the property owned by the company. Also, the shareholders cannot be held responsible for any of the acts of the company. Common seal: A joint stock company has a seal, which is used while dealing with others or entering into contracts with outsiders. It is called a common seal as it can be used by any officer at any level of the organization working on behalf of the company. Any document, on which the company's seal is put and is duly signed by any official of the company, becomes binding on the company. For example, a purchase manager may enter into a contract for buying raw materials from a supplier. Once the contract paper is sealed and signed by the purchase manager, it becomes valid. The purchase manager may leave the company or may be removed from his job or may have taken a wrong decision, yet, the contract is valid till a new contract is made or the existing contract expires. Perpetual existence: A joint stock company continues to exist as long as it fulfills the requirements of law. It is not affected by the death, lunacy, insolvency or retirement of any of its investors. For example, in case of a private limited company having four members, if all of them die in an accident, the company will not be closed. It will continue to exist. The shares of the company will be transferred to the legal heirs of the members. Limited liability: In a joint stock company, the liability of a member is limited to the amount he has invested. While repaying debts, for example, if a person has invested only Rs.10,000 then only this amount that he has invested can be used for the payment of debts. That is, even if there is liquidation of the company, the personal property of the investor can not be used to pay the debts and he will lose his investment worth Rs.10,000. Democratic management: Joint stock companies have democratic management and control. Since in joint stock companies there are thousands and thousands of investors, all of them cannot participate in the affairs of management of the company. Normally, the investors elect representatives from among themselves known as Directors to manage the affairs of the company. The above discription must have given you an idea about public and private limited companies in general. There are some special charecterstics of Public and Private limited companies that must be understood. There are given below.

Special charecerestics of Private Limited Comapnies

These companies can be formed by at least two individuals having minimum paid-up capital of not less than Rupees 1 lakh. As per the Companies Act, 1956 the total membership of these companies cannot exceed 50. The shares allotted to its members are also not freely transferable between them. These companies are not allowed to raise money from the pub-lic through open invitation. They are required to use Private Limited after their names. The examples of such companies are Combined Marketing Services Private Limited, Indian Publishers and Distributors Private Limited etc.

Special charectersetics of Public Limited Companies

A minimum of seven members are required to form a public limited company. It must have minimum paid-up capital of Rs 5 lakhs. There is no restriction on maximum number of members. The shares allotted to the members are freely transferable. These companies can raise funds from general public through open invitations by selling its shares or accepting fixed deposits. These companies are required to write either public limited or limited after their names. Examples of such companies are Hyundai Motors India Limited, Jhandu Pharmaceuticals Limited etc.