Investors looking for a basic valuation of a company can turn to its assets and liabilities. Another term for book value is shareholders' equity.
Dominic Diongson; Canva
What Is Book Value?
Book value is an accounting measure of the net value of a company. It’s a metric used to calculate the valuation of a company based on its assets and liabilities.
If owners or executives sought to make a quick sale of their company and needed to sort out valuation, one method would be via book value. Going through their balance sheet, they would subtract liabilities from assets, providing a net asset amount. Another term for book value is shareholders’ equity, which is a line item that can be found on the balance sheets of publicly traded companies’ quarterly and yearly filings with the Securities and Exchange Commission. It’s usually found under the assets, liabilities, and equity section of the balance sheet.
Net income may play a major factor in a company’s book value, and owners or executives typically want the valuation of their company to increase: the higher the profits, the higher the book value; conversely, lower profits can drive book value down. It’s easier to push up or bring down profits on a quarterly basis because other assets and liabilities tend to fluctuate less than net income.
How Do You Calculate Book Value?
Book Value = Assets – Liabilities
Going through the company's balance sheet, calculating book value may not be straightforward as subtracting total liabilities from total assets.
Dominic Diongson; Canva
Book value can be calculated in a simplified manner by subtracting a company’s liabilities from its assets. In many cases, however, there are other items that are included in that calculation, and it isn’t as straightforward as subtracting line item “Total Liabilities” from line item “Total Assets.”
In The Coca-Cola Company’s financials, for example, shareholders’ equity would be listed as “Total Equity”, which subtracts all types of liabilities—including long-term debt—from “Total Assets.” Amazon lists its shareholders’ equity simply as “Total stockholders’ equity.”
Why Is Book Value Important?
For startups, book value is a basic metric to measure their company’s valuation. They don’t have shares that are openly traded, and consequently don’t have a public market price. There are other valuation methods for startup companies, of course, but book value provides tangible assets such as equipment, property, and inventory.
A publicly traded company, on the other hand, will have a published market price, providing investors with the ability to compare the company’s market value to its book value. Book value tends to be lower than market value because shareholders usually put a premium on price. However, if book value is higher than market value, then the company would be viewed as undervalued, but, still, it’s uncommon to see book value be the same as or lower than market value. Unusual events such as market crashes, though, can cause market value to drop precipitously. At the start of the 2020 pandemic, panic selling drove down stock prices for many companies, and in late March and early April, the market value for some dipped below their book value.
It’s difficult to predict a company’s assets or liabilities or gather that information in real time, so investors use the most recent data and combine it with the latest stock price in calculating price-to-book ratio.
Below is a table of companies’ book values as of the end of the third quarter of 2021 compared to their market capitalization at the end of November, in billions of dollars.
Book Value vs. Market Value vs. Intrinsic Value, According to Warren Buffett
Over the past few decades, famed investor Warren Buffett has placed less emphasis on book value, saying in the annual reports of Berkshire Hathaway that it’s a weak indicator for assessing the value of a company. Instead, he prefers looking at market value, and taking it a step further, intrinsic value, which in simple terms, he says is the discounted value of the cash that can be taken out of a business during its remaining life.
He used a college degree as an example in which book value was roughly the cost of the education, while the intrinsic value was roughly the difference between the graduate’s earnings over their lifetime and what their lifetime earnings would have been without a degree. Buffett’s focus is on a company’s future (intrinsic) value for its earnings potential rather than its historical (book) value. In fact, he goes on to say that book value is meaningless as an indicator of intrinsic value.
Frequently Asked Questions (FAQs)
The following are answers to some of the most common questions investors ask about book value.
Are Book Value and Market Value the Same?
Market value is calculated by multiplying a company’s number of shares outstanding by its share price, while book value is the difference between its assets and liabilities.
What Is Book Value Per Share?
Book value per share is calculated by taking shareholders’ equity and dividing it by the number of shares outstanding, providing book value on a per-share basis.
What Is Price-to-Book Ratio?
That ratio measures how a company’s market valuation compares to its book value. A high ratio may indicate overvaluation, while a low ratio suggests it being at fair value or undervalued.
How Is Book Value Used in Calculating Return on Equity?
Return on equity is calculated by dividing net income by book value.
Can Book Value Be Negative?
Book value can be negative if a company’s liabilities exceed its assets. In many cases, a negative book value could mean that a company is bankrupt.
