Book Value

What It Is:

Book value is the value at which a company carries an asset on its balance sheet. It is equal to the cost of the asset minus accumulated depreciation:

Book value = Cost of the asset - Accumulated depreciation

How It Works/Example:

Let's assume Company XYZ bought a MegaWidget for $100,000 three years ago. The MegaWidget depreciates by $10,000 a year. Thus the book value of the MegaWidget is:

$100,000 - $10,000 (year 1 depreciation) - $10,000 (year 2 depreciation) - $10,000 (year 3 depreciation) = $70,000

If Company XYZ sells the asset for, say, $90,000 today, it likely will have to record a $20,000 capital gain ($90,000 sale price - $70,000 book value at time of sale = $20,000).

Why It Matters:

Book value is one of the most popular financial measures, particularly when it comes to valuing companies. When a company's book value is below the actual market value of the company, the company may be overvalued. Likewise, if the company's book value is above the actual market value, the company might be undervalued.

The disparity highlights one very important aspect of book value: it is usually not what an asset (or company) might be really worth today. In other words, book value is not the same as market value.