What is Book Value?
Avoid Confusing It With Market Value
The book value of assets and shares are the value of these items in a company's financial records. These values can be found in the company's balance sheet and accounting tools such as journals and ledgers.
The book value per share is a market value ratio that weighs stockholders' equity against shares outstanding. In other words, the value of all shares divided by the number of shares issued. Book value of an asset refers to the value of an asset when depreciation is accounted for. Depreciation is the reduction of an item's value over time.
Generally, the book value per share is of use to investors for determining whether a share is undervalued. Avoid confusing this measurement with the market value per share. Market value per share is the price a share is being traded on the market, influenced by the impressions investors have of the future of that share.
Book Value per Share
Here is the calculation of the book value per share:
Book Value per Share = Shareholders' Equity ÷ Average Number of Common Shares
It's important to use the average number of outstanding shares in this calculation. A short-term event, such as a stock buy-back, can skew period-ending values, and this would influence results and diminish their reliability.
A company has $20 million worth of stockholders' equity, $5 million worth of preferred stock, and an average of 5 million shares outstanding. The calculation of its book value per share is:
($20 million (Stockholders' Equity) – $5 million (Preferred Stock)) ÷ 5 million (Average Number of Common Shares) = $3 (Book Value per Share)
Book Value of an Asset
An asset's book value is calculated by subtracting depreciation from the purchase value of an asset. Depreciation is generally an estimate, calculated using different methods.
Book Value of an Asset = Purchase Price - Accumulated Depreciation
For the purposes of this example, the straight-line method of depreciation is used, in which an asset depreciates in a set amount each year.
A tractor is purchased for $38,000. Depreciation is set at $5,000 per year. In three years time the book value of this asset is:
$38,000 - $15,000 = $23,000
Market Value per Share
There is no formula for calculating the market value per share of a company. It is the price at which a share is currently trading on the market. What this means is that shares are being purchased and sold due to the perceptions of investors. These perceptions could include thoughts on the company's future, how a competitor might influence the market or investor perception of executive changes.
The price can rise and fall with no changes in expenses or revenues by the company if investors feel that the value is more or less than they are comfortable with.
Comparing book value per share and market value per share is not a good practice. The discrepancies will not tell you anything of use, other than the difference in investor perception and the value of shares from the books.
Market Value of an Asset
The key difference between the book value and market value of an asset is that the book value is usually the price at which an asset was purchased. Market value of an asset is the current value of an asset on the market. These two prices may be different depending on when an asset was purchased.