If you are a beginner investor, then understanding book value is crucial for you. By knowing the book value, you can make a smarter investment decision.
Book value in the stock market refers to the net asset value of a company. To understand in simple terms, book value represents the total value that the existing shareholders will get if the company were to be liquidated today.
What is Book Value in Stock Market?
From a fundamental analysis point of view, book value represents the net worth of the company. To calculate book value, simply subtract the total liabilities of a company from its total assets. For example, if a company has total assets worth ₹100 Crore and total liabilities worth ₹60 Crore. Then the book value of the company is said to be ₹60 Crore.
Investors use book value to identify whether a stock is undervalued or overvalued. If a stock is trading lower than its book value, it may be a good opportunity to invest, given the company stands strong on other financial parameters.
How is Book Value Calculated
To calculate the book value, use the following formula:
Book Value = Total Assets – Total Liabilities
This gives the total net worth of the company in its balance sheet.
To calculate the book value per share (BVPS), use this formula instead:
Book Value = (Total Assets – Total Liabilities) / Total Outstanding Shares
Example:
Let us consider a listed company ABC having:
Total Assets = ₹500 crore
Total Liabilities = ₹200 crore
Total Outstanding Shares = 10 crore
Now the Book Value = ₹500 crore – ₹200 crore = ₹300 crore
And, Book Value Per Share = ₹300 crore / 10 crore = ₹30 per share
Use of Book Value
Book value is an important financial metric that can be used in multiple ways by investors as well as analysts. The most common uses of book value are listed in the table given below.
| Assessing a Company’s Net Worth | Book value helps to understand the actual net asset value of a company. Investors use book value to know a company’s financial health and stability. |
| Identifying Undervalued Stocks | A stock can be considered undervalued if its market price (trading price) is below the book price. In that case, it can be a good investment option, given that other metrics hold up. |
| Calculating Price-to-Book (P/B) Ratio | Book value is needed to calculate the price-to-book (P/B) ratio of a stock. |
| Comparing Companies Within the Same Industry | Book value helps in comparing peers within the same or across similar industries. It is very useful for asset-heavy sectors like manufacturing, banking, and real estate. |
| Making Informed Buy/Sell Decisions | Investors look at the book value to decide if the growth of the company is rightly aligned with its asset base. |
Price to Book Ratio
The price-to-book ratio is an important financial ratio that is used to compare the current market price of the stock to the company’s book value per share. The formula for calculating the price-to-book ratio is given below.
Price to book ratio = Market Price / Book Value per share
For Example: If a company has:
Market Price per Share = ₹100
Book Value per Share = ₹50
Then its P/B Ratio = 100/50 = 2
It can be inferred that the stock is currently trading at two times its book value.
How to interpret the Price to Book Ratio
The price-to-book ratio can be interpreted in one of the following ways:
P/B < 1: Stock may be undervalued (trading below net asset value)
P/B = 1: The stock is fairly valued
P/B > 1: Stock may be overvalued (investors are paying a premium)
The price-to-book ratio is used especially for analyzing asset-heavy sectors such as banking and real estate. For companies in the tech and service sectors, price-to-book ratio might not present the complete picture. It is best to use the price-to-book ratio alongside other financial ratios like price to earnings, return on equity, etc. This would imply a better conclusion as to whether the stock is favorable for investment or not.
Final Thoughts
Both book value and ratios (price to book) derived using it are helpful to investors who want to thoroughly analyze the company from an investment point of view. Book value represents the total net worth of a company. The price-to-book ratio, on the other hand, compares the stock price with its book value per share. Combining both can offer valuable insights. However, it will be better if they are used alongside other quantitative and qualitative factors to make any final decision.
