Book value per share / Valuation metrics
Encyclopedia of Business Terms and Methods, ISBN 978-1-929500-10-9. Copyright © 2011. Marty J.Schmidt.Revised 12 January 2012.
The book value per share ratio is a frequently used valuation metric. Valuation metrics are comprehensive measures of a company's performance, financial health and prospects for future earnings.
Three valuation metrics are considered here: the price to earnings ratio, book value per share, and the market to book ratio. All reflect the collective opinions of market analysts and investors about the future prospects for the company.
Valuation Metrics belong to the larger family of financial statement metrics, which draw data from a company's income statement, balance sheet, and other financial accounting sources, to measure the strength of the company's financial performance and financial position. With valuation metrics, the general approach is compare the market's opinion (measured in market price of the company's stock shares) to actual reported earnings or to "book value of the company.
Price to Earnings Ratio
Book Value per Share
Market to Book Ratio
Sample Income Statement
Sample Balance Sheet
Sample Statement of Retained Earnings
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Price to Earnings Ratio
Investors buy stock in a company expecting dividends and/or appreciation in share price. The extent to which they expect growth in these areas impacts the price they are willing to pay for the stock. Investor confidence in future growth is measured in the price to earnings ratio (or P/E ratio): common stock market price, divided by earnings per common share. Note that P/E ratios can change continuously because stock prices change continuously.
Example data for calculating a P/E ratio are drawn from information in the sample financial statements below:
Earnings per share of common stock: $2.62
Share price, common stock: $50.00
In algebraic terms,
P/E ratio = Common stock market price / earnings per common share (EPS)
= $50.00 / 2.62
= 19.08
Notes on Earnings Per Share
The Earnings per Share (EPS) figure that goes into the P/E calculation is a financial metric in its own right. EPS is presented in this encyclopedia as a profitability metric, although it is also considered a valuation metric by some. In any case, the EPS figure for calculating the P/E ratio is sometimes given at the bottom of an income statement under net profit (EPS is not given on the sample income statement below, however). When EPS is not given, the analyst must calculate EPS from income statement, balance sheet, and statement of retained earnings figures.
Earnings per share always refers to earnings per outstanding share of common stock. Preferred shares are excluded from the calculation for the same reason that preferred shareholder equity is sometimes excluded from the return on equity calculation: owners of preferred shares have precedence over owners of common shares both in the payment of dividends and in payouts in the event of liquidation. Preferred ownership thus represents funds that are not and would not be available to common stock owners. To exclude preferred share impact on the EPS, the earnings figure in the EPS calculation is net profits less preferred share dividends.
From the sample income statement and the statement of retained earnings below:
Net profit on sales: $2,126,000
Preferred share dividends: $33,000
From other information in the company's annual report:
Average common shares outstanding for the year: 800,050 shares
Earnings per share
= (Net profit – Preferred share dividends) / Avg common shares outstanding
= ($2,126,000 – $33,000) / 800,050
= $2.62 / share
Notes on Stock Price for the Price / Earnings Ratio
The earnings per share and price to earnings values are published at the end of the reporting period. For some purposes these figures will generally be considered constant until the end of the next reporting period. Stock prices, however, tend to vary continuously. The analyst comparing stock P/E ratios for different companies will probably use an average stock price for the reporting period. An individual investor, however, deciding whether or not to buy shares, will want to know the up to the minute P/E ratio based on the current stock price.
P/E Rule of Thumb
P/E ratios for individual companies should be compared to industry standards or the P/E ratios of competing companies. A higher P/E ratio means it will take longer for the company to recover investment cost for owners (it will take longer if the P/E ratio remains at its present level, that is). A higher P/E ratio, therefore, indicates investor confidence in the future growth of earnings.
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Book Value per Share
In principle, book value per share is the value that would be distributed to owners (stockholders) if the company is liquidated and the equity turned into cash at its book value (balance sheet value), assuming dividend payments are up to date. This value can bear little or no relation to the stock's market price. The book value per share contributes to a more commonly used valuation metric, however, the Market to Book ratio (next section, below).
A company's preferred shares and common shares each have their own book value per share:
Book value per share, preferred stock
= Equity allocated to preferred stock / Preferred shares outstanding
Book value per share, common stock
= (Owner's equity−equity allocated to preferred stock) / Common shares outstanding
Note: Equity allocated to preferred stocks has two components: a liquidation value preference per share, and a cumulative dividend
Data for book value per share examples:
From balance sheet:
Total stockholder's equity: $13,137,000 (from balance sheet)
From company's annual or quarterly report:
Common shares outstanding: 800,050
Preferred shares outstanding : 29,000
Specified by the company issuing preferred shares:
Liquidation value preference per preferred share: $34.00
(The liquidation preference may be set equal to the preferred
share purchase price or, sometimes, a multiple of that price).
Par value per share, preferred stock: $131.00
Cumulative dividend allocated to preferred shares (as % of par): 10.0%
Intermediate calculations:
Liquidation value allocated to preferred shares
= Liquidation value preference per preferred share * preferred shares outstanding
= $ 34.00 * 29,000
= $986,000
Cumulative dividend allocated to preferred shares
= Par value per share preferred stock
* Preferred share cumulative dividend %
* Number of Preferred shares outstanding
= $131.00 * 10.0% * 29,000
= $379,900
Total equity allocated to preferred stock
= Liquidation value allocated to preferred shares
+ Cumulative dividend allocated to preferred shares
= $986,000 + $379,900
= $1,365,900
Book value per share calculation
Book value per share, preferred stock
= Equity allocated to preferred stock / Preferred shares outstanding
= $1,365,900 / 29,000
= $164.57
Book value per share, common stock
= (Owner's equity−equity allocated to preferred stock) / Common shares outstanding
= ( $13,137,000 − $1,365,900 ) / 800,050
= $11,770,300 / 800,050
= $14.71
A stock's book value per share is typically below the current market price price per share. The book value per share is sometimes considered the minimum, or "price floor" for the stock. The relationship between market value and book value per share is examined with the next valuation metric below, market to book ratio.
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Market to Book Ratio
The market-to-book ratio compares the market's valuation of the company's stock to the book value per share (developed in the previous section).
A market to book calculation for a company's common stock shares can be illustrated with data and results from the previous section (above): section:
Common stock market price per share: $50.00
Book value per common share: $14.71
Market-to-book ratio = Market value per share / Book value per share
= $50.00 / $14.71
Market to Book Rule of Thumb.
Ratios greater than 1.0 indicate the market has confidence in this stock's future. A market-to-book ratio less than one is evidence that the market has low confidence in this stock's future price.
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Sample Income Statement
The income data for valuation metrics examples above were taken from this example income statement.
Grande Corporation Gross sales revenues.................33,329 Gross profit.................................10,940 Operating expenses Operating income before taxes............... 3,130 Financial revenue & expenses Income before tax & extraordinary items..... 2,737 Extraordinary items Net Income (Profit).......................... 2,126 |
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Sample Balance Sheet
Some of the data for valuation metrics were taken from this example balance sheet.
Grande Corporation Assets Liabilities Owners Equity |
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Sample Statement of Retained Earnings
Some of the data for the valuation metrics above were taken from this example statement of retained earnings.
Grande Corporation Figures in 1,000s Beginning balance, |
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