Beginning Investor Terms – Price/Book ratio
Posted on | November 4, 2009 | No Comments
It has been a couple of weeks since we had our last Beginning Investor Terms post, so lets get back in the saddle.
The Price to Book ratio (P/B) is a classic Value oriented term that is vital to understand, for understanding most schools of value investing. The equation is PB = Price per share/book value per share. Or an alternate is Market Cap/Book Value.
So what is Book value? Book Value is the financial term for all the tangible assets of a company minus its liabilities. That means intangible assets such as patents, goodwill etc. are not included in this calculation. Depending on the type of company including or not including intangible assets can skew the valuation of a company, but that is the subject of valuation, not book value. As with other financial ratios P/B is a metric to evaluate one company against another, with in an industry or against the market as a whole.
Investing in a low book value company is associated with value investing, because that was one of Ben Graham’s hallmark tools. Subsequent studies have shown that buying a range of low PB stocks outperformed the market Jeremy Siegel, Fama & French, etc.
Buyer beware! There is often a reason that a low P/B company has come up on your screener tool and that is that it is in serious trouble. We will get into ways of using this as basis for valuation, but no be bound by it, in another post. H
Have a great day!
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