What is Book Value?
For value investors, book value is the sum of the amounts of all the line items in the shareholders’ equity section on a company’s balance sheet. You can also calculate book value by subtracting a business’s total liabilities from its total assets.
Key Insights to Maximize Your Understanding
- Definition: A company’s book value is the sum of all line items in the shareholders’ equity section of a balance sheet.
- Market Differences: Book value often differs from a company’s market value.
- Application in Analysis: Book value per share (BVPS) and price-to-book (P/B) ratio are utilized in fundamental analysis.
How to Decode Book Value
The shareholders’ equity is a section on a company’s balance sheet that captures where shareholder investments reside. For instance, consider Amazon’s consolidated balance sheet for its 2022 fiscal year: under Liabilities and Stockholders’ Equity, you find “Total Stockholders’ Equity” with a value of $138.2 billion. This figure derives from summing up values like preferred stock, common stock, Treasuries, paid-in capital, additional comprehensive income, and retained earnings.
Likewise, for Coca-Cola, the line “Equity Attributable to Shareowners” holds the book value important to investors. Given book value represents shareholder worth, it proves effective to compare it with the market value of shares, serving as a technique to evaluate whether shares are fairly priced.
Utilizing Book Value for Investment Decisions
Book value assists investors in two primary ways:
- It contributes to financial ratios that aid in valuing a company.
- When compared to the company’s market value, it helps indicate if a stock is underpriced or overpriced.
Book value features prominently in several financial ratios to provide insights into a company’s financial status.
Book Value Per Share (BVPS): Quick Calculation Guide
Book value per share (BVPS) signifies the per-share value based on common shareholders’ equity. To calculate BVPS, divide total shareholders’ equity by the total number of outstanding common shares. For instance, with $21 million in shareholders’ equity and two million shares, the BVPS equals $10.50. Note: This calculation exclusively uses common shares outstanding.
Price-to-Book (P/B) Ratio: Evaluating Value
The price-to-book (P/B) ratio serves to compare value amongst companies within the same industry per uniform asset valuation standards. Calculating it is simple: divide the market price per share by the book value per share. Using the BVPS $10.50 example, if market value is $13.17 per share, the P/B ratio would be 1.25 ($13.17 ÷ $10.50).
Why It’s Termed ‘Book Value’
The term ‘book value’ originates from accounting jargon, referring to company records maintained in accounting journals and ledgers, hence the colloquial term ‘bookkeeping’.
Interpreting Price-to-Book (P/B) Ratios: What 1.0 Signifies
A P/B ratio of 1.0 indicates that the market price mirrors the book value of a share, often appealing to value investors since market prices generally have a premium over book value.
Market Value vs. Book Value: Understanding Higher Valuations
Book value solely reflects shareholder equity, usually omitting intangible assets such as patents, intellectual property, and goodwill. The market value includes investor estimations of these intangible factors, often leading to a higher valuation.
Final Thoughts
Book value equals the value of a company’s total assets minus its total liabilities, synonymous with shareholders’ equity. Generally, market value surpasses book value since it encompasses investor considerations of intangible assets and future prospects. Value investors regularly seek companies with low book values paired with strong fundamentals as possible undervalued investment opportunities.
Related Terms: shareholders’ equity, market value, price-to-book ratio, book value per share
References
- Amazon. “Form 10-K | Amazon.com, Inc”, Page 39.
- The Coca-Cola Company. “Annual Filings”. Click on Annual report pursuant to Section 13 and 15(d) dated 02-21-23.
