Clarifying the Book Value mystery

By Dan Hallett on May 25, 2020

The biblical figure Methuselah and the “Book Value” or “Book Cost” shown on investment statements have something in common. Maybe all of this distancing is getting to me; but stay with me. Methuselah was said to have lived to the age of 969 years. For nearly that long – okay, not quite – investors have never been quite sure what to make of Book Value figures. According to Wikipedia, some attribute Methuselah’s reported age to a big misinterpretation of original scripture. Similarly, many investors still refer to Book Value to figure out how much they’ve profited on an investment – also a misinterpretation. While I can’t answer questions of Methuselah’s extreme age, I can help clarify the Book Value mystery.

Book Value (BV) or Book Cost is simply the sum of purchases, transaction charges, and reinvested distributions; minus the distributions’ return of capital component. This is the same definition of an investment’s adjusted cost base (or ACB). Accordingly, another way to think of BV and ACB is as an average cost of acquisition.

Most custodian/brokerage statements show BV and Market Value (MV) side-by-side; and then display a gain or loss by calculating MV minus BV. Since BV and ACB (cost for tax purposes) are the same, the gain or loss shown can be relevant for tax purposes (but not always). BV is almost never helpful to understand your rate of return. And unfortunately, that’s how most people interpret the difference between market and book values. A true account of an investment’s return, however, requires something called “Original Cost”; which is simply the investor’s cash outlay. Nothing more; nothing less. Here are two examples to illustrate the difference. Each example assumes the following:

  • An initial investment of $50,000 in an investment fund or pool (no transaction costs).
  • Fund is held for 5 years with no further buys or sells.
  • The fund/pool pays a cash distribution of $0.30/unit (all taxable income) at the end of each year.
  • The only difference between the two scenarios is what the investor does with the cash distributions.

The below table shows a year-by-year account of this hypothetical investment. Distributions are taken in cash at the end of each year in this case – not reinvested. Refer above to the definition of BV. Since we assume no trading costs and fully-taxable distributions are taken in cash, Book Value equals Original Cost in this scenario. It is accurate, then, to say that this fund’s price has been flat over the five years; posting a very small overall loss. But the investment has been profitable overall. Recall that distributions of $7,500 were paid out and taken in cash. And when they’re paid in cash, they’re not part of the ending unit balance or unit price – so not reflected in the ending market value figure.

Even though BV and Original Cost are the same in this scenario, the line item for this fund will appear as if the investment has made no money; when in fact it produced $7,500 in cash while keeping a stable price. A different kind of confusion often occurs when some or all of that cash distribution is reinvested.

The next table illustrates our second scenario – identical to our first one above; except that all distributions are reinvested at the end of each year. Note that BV is now significantly higher than Original Cost. That’s because BV (like ACB) includes $7,944 of reinvested distributions. Our hypothetical investor didn’t “write a cheque” for $7,994 of additional purchases. But the BV figure counts those reinvested distributions as additional purchases; which is why BV in the below table is higher than in the first scenario (in which distributions were taken in cash).

The higher BV figure doesn’t change the fact that the investor in this scenario only invested $50,000. Yet, comparing BV ($57,944) with ending MV ($56,924) can give the impression that this was a money-losing investment. Again, we have an actual dollar return of $6,924 because the original total cost – i.e. what the investor put into this investment – was $50,000.

The next time someone quips “that’s as old as Methuselah” you may or may not be able to address whether or not anyone has ever lived nearly a thousand years; but hopefully you will remember that book value – while useful for tax purposes – doesn’t tell you anything about the profitability of your investments.

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