Book value
The book value tells you how much a company is worth. Basically, the book value reflects the total value of a company’s assets that shareholders of that company would receive if the company were to be liquidated.
It is the net difference between that company’s total assets and total liabilities.
Figure 6.7: Book Value
Say a given company A owns a building, a truck, desks, chairs, etc. And also owns shares in other companies. If you were to sell everything that would be the total value of the assets of company A. Say is it $300.
Say, this company, also, has a /$100 in debt.
The book value of company A then, would be Assets ($300) - liabilities ($100)= $200.
Book value could be compared to company’s market value to indicate whether a stock is under- or overpriced.
Book value is used in other indicators.
Book value per share (BVPS)
Should a company be dissolve, the book value per common share (BVPS) indicates the dollar value remaining for shareholders after all assets are liquidated and all debtors are paid.
BVPS is calculated as:
Figure 6.8: Book value per share
If a company’s BVPS is higher than its market value per share, then its stock may be considered to be undervalued.
Price-To-Book (P/B Ratio)
Also refereed as price-equity ratio, the price-to-book ratio (P/B ratio) compares a firm’s market capitalization to its book value. It’s calculated by dividing the company’s stock price per share by its book value per share (BVPS):
Figure 6.9: Price-To-Book ratio
Say you want to invest in Ed’s company with the following profile:
Book value =$1,000,000
Outstanding shares= 100,000
Stock price = $20
From this,
Book value per share= $1,000,000/100,000 shares= $10.
This tells you that if the company were to be close each owner of one share would get $10.
P/B Ratio = $20 (Stock price) / $10 (Book value per share)= 2x
This tell you Ed’s stock cost twice as much as its assets could be sold for.
A larger than 1 P/B value suggest that investors value this company a lot; likely is is expected to growth more and be more valuable in the near future.
If stocks prices trade lower than their book value (e.g., P/B value smaller than one) indicates that investors consider the stated value assets of the company to be exaggerated.