Part of balance sheet analysis is understanding the intricacies behind each asset and what they represent. Net tangible assets can be a very useful metric for evaluating a company’s future profitability, especially in capital intensive industries.
In this blog post, I’ll explain the basics behind net tangible assets and include a few easy and practical metrics for it. We’ll break it up into these simple parts:
- Net tangible assets example: Amazon ($AMZN)
- Practical Metrics to Use With Net Tangible Assets
- How Balance Sheets Were Historically Constructed vs. the Business Models of Today
To understand net tangible assets, you might understand its two parts: the net assets part and the tangible assets part.
Net assets is simple. It’s just like the term “net worth”. To calculate net assets, you simply take total assets and subtract total liabilities. In a balance sheet, net assets is the same as shareholder’s equity or book value.
The “tangible” definition of an asset is needed because not all assets are created equally. Nor is every asset valued equally.
When you really break down what an asset is, it’s something that can be bought or sold and, most of the time, generates an income stream.
Examples of Tangible Assets include:
- Real Estate
- Long Term Investments
A company could have many different types of assets that contribute to its cash flow. A clothing company that sells jeans could have factory equipment that produces the jeans, and that factory equipment would be considered an asset.
However, the clothing company could also have ownership rights to a popular brand, and the brand itself would also be considered an asset and arguably have more to do with the company’s profitability than the equipment itself.
In this simple example, the factory equipment would fall on the company’s balance sheet as a tangible asset, and the brand would be reflected as an intangible asset.
Now, there’s lots of intricacies behind intangible assets, when and how they are represented on a balance sheet, and ways to value them. That will not be the point of this blog post. Just understand that net tangible assets look at just the tangible assets a company has—which reflect real assets that we can touch and accurately quantify such as factory equipment and cash.
Net Tangible Assets Example: AMZN Balance Sheet
Let’s calculate the net tangible assets for Amazon ($AMZN) from its 2019 annual report. As I do with most of my examples, I’m going to take a screenshot from the Consolidated Balance Sheet for AMZN that can be found at sec.gov.
All of the company’s current assets are tangible, so they will be included in our Net Tangible Assets calculation.
Like mentioned earlier, Property and equipment is an obvious tangible asset and will also be included. Goodwill is an intangible asset and so we won’t add it.
For the “other assets” row, we have to read the notes in the 10-k to determine whether these assets should be considered tangible or not.
From page 46, the company writes that “other assets” are primarily related to acquired intangible assets, so these will also not be included in Net Tangible Assets.
So, for 2018, Amazon’s Tangible Assets =
75,101 (Total Current Assets)
+ 61,797 (Property and equipment)
Now let’s subtract liabilities to arrive at Net Tangible Assets.
To calculate Total liabilities for AMZN in 2018, which isn’t explicitly posted in this balance sheet, I’m going to take Total Assets minus Shareholder’s Equity. So,
Total liabilities = 162,648 – 43,549 = 119,099.
Net Tangible Assets = 136,898 (Tangible Assets) – 119,099 (Total Liabilities)
Net Tangible Assets = $ 17,799 (in millions).
Practical Metrics to Use with Net Tangible Assets
Now that we have Amazon’s net tangible assets, we can use a metric like Net Tangible Assets per share, or NTA/share. To calculate NTA/share, simply take the Net Tangible Assets and divide by shares outstanding.
AMZN 2018 NTA/share = $17,799 / 500
AMZN 2018 NTA/share = $35.60
Note: to find Amazon’s shares outstanding, I simply took the diluted shares number from the line item “Weighted-average shares used in computation of earnings per share” in the Income Statement.
Now that we have the NTA/share figure, we can use this figure to either compare the stock with others in its industry, or calculate a modified P/B ratio from it.
The P/B or Price to Book ratio is a simple balance sheet metric that is commonly used to calculate how undervalued (or overvalued) a stock is priced compared to the assets and equity on its balance sheet. I’d recommend reading through a P/B ratio guide first if you aren’t familiar with this metric.
In this version of the P/B ratio (or Price to Tangible Book Value Ratio), we’re going to simply replace the BVPS (book value per share) with NTA/share figure. For AMZN, that comes out to:
Tangible BVPS = [Share price] divided by [NTA/share]
Tangible BVPS = $1827.55 / $35.60 = 51.34.
This modified P/B ratio can be used in the same ways that a standard P/B ratio would be used, to compare stocks in the same industry or to compare a stock to its historical P/B average. You can also use it on an absolute rather than relative basis too if that’s what you like to do.
How Balance Sheets Were Historically Constructed vs. the Business Models of Today
In the past, there was a much heavier focus on companies with high Net Tangible Assets. Especially before the internet, there were a lot more capital intensive businesses that needed expensive assets like machinery and equipment to make profits.
Today, the industrial economy has shifted to more of an information and idea economy—and high net tangible assets aren’t always necessary depending on the business model.
However, as investors who are scrolling through balance sheets, it’s imperative that we know how to calculate net tangible assets and determine whether we want to prioritize stocks with a high percentage of tangible vs intangible assets, or not. There’s heavy debates behind which of the two types of assets, tangible or intangible, are better for picking stronger stocks.
But what’s mostly likely—is that there will not be any one solution for every business, as every business is different.
However, by intelligently considering each business and industry and coloring your balance sheet analysis based on this lens, you have a much better chance of being a better stock analyst whether a company has high net tangible assets or not.