Book value

Investors try to find companies that are undervalued before other investors. There are a number of common techniques, but valuing a company remains highly subjective. Often it comes down to a matter of opinion.

At the simplest level, a company is worth the value of its assets minus its liabilities. That's called its book value.

Book value is the amount of money that would be available to shareholders if the company's assets (excluding intangibles such as copyright and patents) were sold at their balance-sheet value and all liabilities were paid. For example, if a company has assets of £50m and liabilities of £30m, then the company's book value is £20m.

Book value is often expressed in terms of book value per share (book value divided by the number of outstanding shares). The market price per share is then compared to the book value per share. This is known as the price-to-book value ratio. It is calculated by dividing the price per share by the book value per share.

For example, if the market price of a share is £10, and the book value per share is £5, the price-to-book value ratio is 2. Each business sector typically has an average price-to-book value ratio. Banks, for example, have a low price-to-book ratio of around 1.5, while technology stocks would have a much higher ratio.
Limitations of book value

A major drawback with book value is that it is difficult to value assets accurately. There are a variety of legitimate accounting techniques for measuring tangible assets, all of which arrive at different valuations. It may be unrealistic to assume that the value of a tangible company asset on the balance sheet equals the value it would fetch if it were to be sold off.