The Price to Book Ratio (PB Ratio): How to Make a Good Investment Decision

Formula for PB Ratio

Have you ever wondered if there is a metric that juxtaposes the value of a company’s liabilities-adjusted assets with market valuation? Are you curious about a metric that digs deeper than fleeting market sentiments to reveal underlying value? 

If you said 'yes', then check out, the Price-to-Book (PB) Ratio in this blog post. 

The Price-to-book ratio can determine whether a stock is overvalued or undervalued

What is the Price-to-Book (PB) Ratio?

The price-to-book (PB) ratio is one of the most important key financial metrics. It measures the value of a company by comparing its market value and its book value.

Divide the market value of a company's shares by the book value of the company's assets to calculate the PB ratio. The formula for this ratio is:

PB Ratio = Market Capitalization/Total Book Value

The higher the market capitalization, the higher would be the PB ratio. Similarly, the lower the total book value, higher would be the PB ratio. 

For instance, take examples of two hypothetical companies. Tech Innovations Inc. is a rapidly growing tech company with high investor confidence and a PB Ratio of 15.4. The market price per share of Tech Innovations Inc. is significantly higher when compared to its book value. This leads to a high Price-to-book ratio. 

On the other hand, Traditional Manufacturing Co. operates in a more stable and mature company with lower growth prospects. It has a PB Ratio of 0.8. Its market price per share is lower relative to its book value which results in a low Price-to-book ratio.

How Can We Interpret the PB Ratio?

The Price-to-book Ratio determines whether a particular share is overpriced or underpriced. The Price-to-book Ratio basically snapshots whether the stockholders are paying too much or too little for a stock. 

A company might be overvalued in the stock market. If this is the case, then the PB Ratio will be high. On the other hand, if the stock market is undervaluing a company, its Price-to-book ratio will be low.

Trendline of PB Ratio

Calculating PB Ratio the Ancient Way

You can calculate the Price-to-Book (PB) Ratio from the balance sheet as follows:

Look for either "Total Shareholders' Equity" or "Book Value of Equity" on the balance sheet.

Look through the financial reports to find the total number of shares that public corporations currently own and trade. 

Usually, you can spot them either in the balance sheet area or under the headings labeled as "Financials" or "Summary" on websites that keep track of stock movements.

In order to figure out the Book Value per Share, you should take the Total Shareholders' Equity and split it by the Number of Outstanding Shares. And for figuring out the BVPS, you should take the total value owned by shareholders and split it by how many shares are out there.

To find the company's latest stock price closing, you should visit websites about finance check stock market platforms or look into brokerage services.

You should take the share price that's current in the market and divide it by the Book Value per Share (BVPS) to work out the Price-to-book ratio. To figure out the PB Ratio, take the present market cost and split it by the book value for each share.

You can also find out the PB Ratio by taking the company's Market Capitalization and dividing it by the Book Value of Equity it holds. To figure out the PB Ratio, take the market capitalization and divide it by the equity's book value.

Multiply the current price per share by the total number of diluted shares to find the total value of a company in the market. The worth of a company's equity is the same as the total value that belongs to shareholders.

An Example – Apple

Think about taking a closer look at Apple for this example. On May 22, 2024, Apple held a market value of 2.95 trillion dollars. Its worth on the books was around 74.2 billion dollars. Thus the ratio of Apple's price to its book value was 39.75. We get this from dividing 2.95 trillion dollars by 74.2 billion dollars.

It shows that the company's worth is being pegged by investors at about 40 times of what its books say. This indicates that investors consider the price tag on Apple's stocks too steep.

Multiply the current price of a share by the number of shares available to find the market value of a company's shares. On the other hand, the book value of what the company owns comes from taking the original cost of its assets and subtracting the wear and tear over time.

Some factors can affect the method of calculating the price to book ratio. One of those factors is the accounting method used. The key aspect is to determine how the assets of a company are depreciated. 

This information can easily be found in the notes of the company's financial reports. It is important to assess whether the current depreciation methods are accurate. If they are not, you will have to adjust the book value accordingly. See this article on best asset depreciation practices.

Apple’s Depreciation Quote

Determine whether the assets are valued at market value or historical cost by checking the notes in the company's financial quarterly or annual report. 

Assets valued at market value match their balance sheet value with the expected selling price in the marketplace. In contrast, value assets at historical cost based on the purchase price plus any capital improvements, minus historically recorded depreciation.

The price to book ratio can be affected by these various factors, but it is still a very useful tool for stock investors.

How To Calculate the PB Ratio Automatically

The WISE function provided by the Wisesheets add-in can get you the PB ratio for any public company across 50+ global exchanges in Excel and Google Sheets as follows:

=WISE("TICKER", "PB Ratio", "PERIOD/S")

For instance, if you want to calculate the PB ratio of Apple on a TTM basis, just enter the following:

=WISE("AAPL", "PB Ratio", "TTM")

This will return the PB ratio for Apple taking the latest stock price and the book value from the latest quarterly report available.

You can compare hundreds of stocks PB ratio in one go with this, as you can see below:

PB Ratios of Apple, Microsoft, Amazon and Tesla

Interpretation of PB Ratio Across Different Industries

The PB ratio's interpretation varies depending on the industry on which it is applied.

Industries with significant tangible assets, such as manufacturing, real estate, and utilities, find the Price-to-book ratio more relevant. A PB ratio below 1 may indicate undervaluation of a stock, but it could also signal overvalued assets or poor asset performance.

PB ratio does not offer much wisome for sectors that have substantial intangible assets like technology, healthcare, and consumer goods. We have to take into account some important non-balance sheet assets. These include, intellectual property and brand equity, present in such industries. This shows that a low PB ratio does not necessarily mean the stock is undervalued.

In the financial industry, including banks, assets and liabilities are updated regularly. This shows that we can trust them to reflect market values. There, the P/B ratio serves as a reliable valuation metric. Here, a PB ratio near 1 or in line with the industry norm is typically observed.

Why is the PB Ratio Useful?

The PB Ratio is beneficial for the following purposes:

The PB ratio shows how much the market values every dollar of a company's net assets by comparing its market value to its book value.

It reflects a company's financial well-being, with a very low ratio implying possible financial problems and a higher ratio showing stability.

Price-to-book ratio is very helpful when evaluating an investment. With a high ratio potentially indicating both market optimism and increased risk.

Price-to-book ratio is important when evaluating companies in the same industry because it can offer insight into market trends and compare relative valuations.

It is simple to compute and grasp which makes it convenient for novice investors to pinpoint potentially undervalued stocks.

Limitations of the PB Ratio

The main limitations of the Price-to-Book (PB) ratio are:

It is not relevant for companies with substantial intangible assets.

It is not as useful for technology and healthcare companies with significant intangible assets that are not accounted for on the balance sheet.

Its precision is reduced since it relies on past book values, which do not reflect the current market values of assets.

It is difficult to determine a universal interpretation standard for the PB ratio due to the wide variation across different industries.

A company that has a track record of making losses may end up having a negative book value, which renders the PB ratio meaningless.

It looks at a company's current assets without taking into account its potential for future growth.

Differences in accounting regulations in different countries can cause inconsistencies in Price-to-book ratios among companies.

How Can Investors Use PB Ratio

Investors can keep in mind, the following:

Investors can take into account, Return on Equity (ROE) along with the Price-to-book ratio. ROE is a measure of growth that can help shed further light on the Price-to-book Ratio.

 If there are major differences between PB and ROE, it may indicate possible problems. It is problematic if ROE is low and Price-to-book ratio is high for overvalued growth stocks. 

On the other hand, if a stock has a rising return on equity (ROE) and reasonable price-to-book (PB) ratios, we commonly consider it to be correctly valued.

If there are significant tangible assets in a firm, the PB ratio might not work well. Examples could be tech companies. The reason for this is the use the assets of tech companies are not included in the book value. This may result in an inaccurate perception of the company's value and its Price-to-book ratio.

Variations in accounting methods may impact the book value applied while calculating the P/B ratio. Recent losses, purchases, or repurchases of shares can distort the book value and may likely affect the accuracy of the ratio.

Conclusion

The Price-to-Book (PB) ratio gives a snapshot of whether the stock that an investor seeks to invest in is undervalued or overvalued. It does this through comparing the market value to the company's book value. However, its effectiveness can be limited for companies with substantial intangible assets or those affected by historical book values and different accounting standards. To get a complete picture of a company's financial health and growth potential, investors should use the PB ratio alongside other metrics like Return on Equity (ROE) and consider industry-specific factors and intangible assets.

Hello! I'm a finance enthusiast who fell in love with the world of finance at 15, devouring Warren Buffet's books and streaming Berkshire Hathaway meetings like a true fan.

I started my career in the industry at one of Canada's largest REITs, where I honed my skills analyzing and facilitating over a billion dollars in commercial real estate deals.

My passion led me to the stock market, but I quickly found myself spending more time gathering data than analyzing companies.

That's when my team and I created Wisesheets, a tool designed to automate the stock data gathering process, with the ultimate goal of helping anyone quickly find good investment opportunities.

Today, I juggle improving Wisesheets and tending to my stock portfolio, which I like to think of as a garden of assets and dividends. My journey from a finance-loving teenager to a tech entrepreneur has been a thrilling ride, full of surprises and lessons.

I'm excited for what's next and look forward to sharing my passion for finance and investing with others!

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