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Historical Cost Net

Assets

Beginning of the

Period

+

Income Statement

Transactions

during the Period

+

-

Capital

Contributions

Withdrawals=

Historical Cost Net

Assets

End of the

Period

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Book Value in Finance

Book Value represent the value of an asset as recorded onthe financial statements (books)

Why Book Value is Not Really Value

Book value is just reflection of accounting procedures and

accountant tracking an asset

Book Value

LiabilitiesAssets

Equity

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Book Value of Physical Assets

Book Value = Purchase Price - Accumulated

Depreciation

Life = 15 years Cost = 10,000 Salvage Value = 1,000

Annual Depreciation = (10,000 1,000)/15

Annual Depreciation = 600

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Book Value of a Physical Asset

End of

Year t

Deprec-

iation

Accumulated

Depreciation Book Value

1 600 600 10,000 - 600 = 9,400

2 600 1,200 10,000-1,200=8,800

3 600 1,800 10,000-1,800=8,200

4 600 2,400 10,000-2,400=7,600

15 600 9,000 10,000-9,000=1,000

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1. The original cost of the asset

2. The depreciation method employed

Book Value depend on :

3. The expected life of the asset (strictly, the depreciable life)

4. The estimated salvage value

5. The depreciated life (t) that has lapsed Any of these change the BV

Depreciation method is management decision

Depreciable life and salvage also management decisions as

per FBR guidelines

Thus, more relevant to company and regulators, rather than

investors

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Book Value of Financial Asset (Common Stock)

Balance Sheet of Briloff Inc, Dec. 31, 1988

Assets Claims

Total Assets 168

Total Debt

Stockholders Equity

Common Stock (5 million shares, 1 par)

Additional paid-in capitalRetained earnings

Total net worth (Stockholders equity)

Total Claims on assets

80

5

1073

88

168

BV/share=Stockholders equity/number of shares

=88,000,000/5,000,000

=17.60

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Book Value reflect the past

Finding BV of physical & financial assets is a mechanical

process

BV reflects history and how accountants determine the cost

BV do not satisfy two requirements ofMarket Value:

1. Cash flow stream from the asset2. Sacrifice

MV reflect the future income stream, while MV reflect the

past

Opportunities are in future

BV reflect past and not useful in decision making

BV has little to do with what one will pay for asset, thus MV

are used

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The Role of Book Value in Financial Decision Making

Question: If book value really reflect the past, how are they of

use to anyone?what use is accounting information to the financial

executives?

According to the Accounting Principles Board:

Financial accounting information is produced for certain purposes by the

use of conventional principles. The information they contain describes the

past, while decision making is oriented toward the future. A record of past

events and a knowledge of past position and changes in position,

however, help users evaluate prior decisions and the information is also astarting point for users in predicting the future. Decision makers should

not assume, however, that the conditions that produced past results will

necessarily continue in the future