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Consolidated Edison and Amazon.com

Consolidated Edison, the electric utility servicing the New York area, is not a growth company. Its market is limited and it is expanding capacity at a very deliberate pace

More important, it is a regulated utility, so its profits on present and future investments are limited. Its earnings have been growing slowly, but steadily. In contrast, Amazon.com has little to show in the way of current earnings. In fact, by September 1999, it had recorded accumulated losses of over $500 million. Nevertheless, the total market value of Amazon stock in March 2000 was $22 billion. The value came from Amazon s market position, its highly regarded distribution system, and the promise of new related products which presumably would lead to future earnings. Amazon was a pure growth firm, since its market value depended wholly on intangible assets and the profitability of future investments. It is not surprising then that while Con Ed shares sold for less than their book value in March 2000, Amazon sold for 53 times book value.

Financial executives are not bound by generally accepted accounting principles, and they sometimes construct a firm s market-value balance sheet. Such a balance sheet helps them to think about and evaluate the sources of firm value. Take a look at Table 3.4. A market-value balance sheet contains two classes of assets: (1) assets already in place, (a) tangible and (b) intangible; and (2) opportunities to invest in attractive future ventures. Consolidated Edison s stock market value is dominated by tangible assets in place; Amazon s by the value of future investment opportunities.

Other firms, like Microsoft, have it all. Microsoft earns plenty from its current products. These earnings are part of what makes the stock attractive to investors. In addition, investors are willing to pay for the company s ability to invest profitably in new ventures that will increase future earnings. Let s summarize. Just remember:

Book value records what a company has paid for its assets, with a simple, and often unrealistic, deduction for depreciation and no adjustment for inflation. It does not capture the true value of a business.

Liquidation value is what the company could net by selling its assets and repaying its debts. It does not capture the value of a successful going concern.

Market value is the amount that investors are willing to pay for the shares of the firm.

This depends on the earning power of today s assets and the expected profitability of future investments.

The next question is: What determines market value?

MARKET-VALUE BALANCE SHEET Financial statement that uses the market value of all assets and liabilities.