Learn about the key similarities and differences between the two concepts
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In this article, we will discuss market value vs book value and determine the key similarities and differences between them. Market value and book value are fundamental concepts in accounting and finance. They represent different aspects of the value of an asset.
Market value is the price currently paid or offered for an asset in the marketplace. Essentially, the market value of an asset is a quantified reflection of the perception of the value of the asset by the market.
On the other hand, book value is a concept related to the value of an asset as recognized by a company on its balance sheet. Book value equals the original purchase cost of an asset adjusted for any subsequent changes including depreciation, amortization, or impairment.
What is Market Value?
Market value is the current prevailing price for an asset in the marketplace.
Unlike the more stable book value, which is rarely adjusted, market value is highly dynamic. For example, the market value of a publicly-traded company may fluctuate every second due to the fluctuations in its stock price.
Market value can be easily determined for highly liquid assets such as equities or futures. The financial assets are generally traded on centralized exchanges, and their prices can be easily discovered.
However, the determination of the market value of illiquid assets is a challenging process. The absence of a constant network of buyers and sellers, as well as the complexity of some of the underlying assets (think about real estate or artwork), requires a time-consuming process to identify the reasonable market value.
The term “market value” is sometimes used synonymously with “market capitalization” of a publicly-traded company.
What is Book Value?
Book value (also known as carrying value or net asset value) is an asset’s value as recorded on a company’s balance sheet. In essence, book value is determined as the original cost paid for the asset’s acquisition, adjusted for any depreciation, amortization, or impairment attributable to the asset.
From basic accounting principles, we can derive that the book value helps determine the value of a company’s equity. In this sense, we’re talking about the equity value that the shareholders should receive in case of the company’s liquidation.
In addition, book value is frequently used to determine whether an asset is under- or overpriced. It can be determined by comparing the difference between the asset’s book and market values.
For example, one of the key applications of the difference between an asset’s book and market values is the company’s valuation. If the company’s book value exceeds its market value, it can be an indicator of a loss of confidence in a company from the investors. It can be the result of the company’s business problems, poor economic conditions, or simply investors erroneously undervaluing the company. Alternatively, if the company’s market value exceeds its book value, it is an indicator of the investors’ belief in its growth potential.
A significant variation between market value vs book value may arise if a company purchased an asset in the past that has markedly increased in value.
We hope you’ve enjoyed reading CFI’s explanation of market value vs. book value. CFI is the official provider of the global Financial Modeling & Valuation Analyst (FMVA)® certification program, designed to help anyone become a world-class financial analyst.
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