The decision to sell a company property should be in alignment with the company’s financial objectives. In order to achieve such alignment, parties responsible for the oversight of company real estate should investigate the value of the property on their balance sheet, or its book value, and the related impacts its sale will have on company financials.
What is Book Value
Book value, or net book value, is the value a company attributes to assets on their balance sheets. It is calculated over time by taking the fair value of the property less any accumulated depreciation.
It is important to realize that fair value is not the same as fair market value. Fair value is often described by statute or generally accepted accounting principals (GAAP), and is subject to adjustment based on certain criteria. Fair market value is the value acceptable to a competent buyer and seller without any undue pressure to buy or sell.
While the difference between fair value and fair market value is subtle, it can be significant when establishing book value. For example, fair value only considers participants in the most advantageous market, which is between the principles. In other words, it is the value that is fair between the parties. It may or may not have any relation to the fair market value, which would be established in an open market.
Book values for real estate usually change over time, mostly due to accumulated depreciation and other deducted expenses. The net of accumulated depreciation and other deductions from fair value is also called carrying value. Importantly, book value can change due to events such as partnership changes, severe issues with the property’s condition, economic conditions, or unfavorable changes to the political climate where the property is located.
Why does Book Value Matter
A property’s book value is reported as an asset on the company’s balance sheet until it is sold. At the time of sale, the difference between its book value and sale price will largely determine the gain or loss reported on the company’s income statement.
Therefore, book value is a consideration of the sale when the resulting gain or loss reported on company financials is not in alignment with company financial objectives. Losses from property sales are sometimes discouraged or prohibited in some companies, although gains may also be problematic if not anticipated. In such cases, those responsible for the oversight of the company real estate may need to postpone the sale or find alternative transactions such as leasing the property.
Not surprisingly, there are situations where book value is more likely to become a consideration of the sale, including when:
- Fair value is significantly above fair market value
- There is a significant percentage of un-depreciable components such as land
- The company is public or a quasi-private entity that rolls up to a public company
- The gain or loss of sale will have a significant impact on the company’s financials
Since property transactions should always align with corporate objectives, book value and any impacts to the company’s financial position should be investigated by corporate real estate decision makers when considering a real estate disposition.