Book value refers to the accounting net worth, or owner’s equity, of the business.
Book value is presented on the balance sheet in the owner’s equity section. The owner’s equity section on the balance sheet equals the firm’s assets minus the firm’s liabilities.
Book value can be calculated with all of the firm’s assets or using only the firm’s tangible assets. Book value which is calculated with all of the firm’s assets (both tangible and intangible), is often called total book value. Book value which is calculated using only the firm’s tangible assets is often called tangible book value.
Book value can be used as a short-hand valuation method for certain publicly traded companies, such as real estate and financial companies. Investors do this using the price-to-book value ratio or some variation. For example, suppose a public homebuilder has $1 billion in total assets, $600 million in total liabilities, and 10 million shares outstanding. The current stock price is $60. What is the price-to-book ratio?
First, we calculate the book value per share by dividing the company’s net worth by the number of outstanding shares: ($1 billion – $600 million) / 10 million shares = $40 per share. Second, we divide the current price by the book value per share: $60 / $40 = 1.5. Thus, we say the stock is trading at “1.5 times book value.” In other words, investors are paying 1.5 dollars for every 1 dollar in book value.
