Price-To-Book Ratio

The price-to-book ratio measures the market valuation of the company compared to its book value. The investors use the price-to-book ratio to identify the potential. The price-to-book ratio does not account for a company's intangible assets. A business is usually seen as beneficial for investment if its P/B ratio is 1 or less. This article explains the meaning, formula, and calculation of the PB ratio. To understand what is PB ratio in share market deeply, keep reading this detailed guide ahead.

Example of How to Use the Price-to-Book (P/B) Ratio

Price-to-Book ratio or PB ratio is a common financial indicator for helping investors determine the company's worth. The market price per share and the book value per share are compared. Investors can use the PB ratio to evaluate if a stock is overpriced or undervalued to its book value. For investors looking for stocks that are trading below their actual value, it's a useful tool.  

To understand what is PB in share market analyse this example. To calculate the PB ratio, use the formula given below. 

P/B ratio = Market price per share divided by the book value per share

Let's say that A is a firm with a stock price of Rs. 4,000 and a book value per share of Rs. 1,000 as of right now. However, the stock price of another firm, B, is Rs. 6,000, and its book value per share is currently Rs. 2,000. The calculations are shown below using the P/B ratio formula: 

• Here, the P/B Ratio of ABCDE = 4,000 / 1,000 = 4
• And P/B Ratio of ABC = 6,000 / 2,000 = 3 

As demonstrated in this example, many investors believe that B is a better-valued firm because of its relatively lower P/B ratio. 

Open Demat Account

Your first step to enter share market

Get Started

* By signing up you agree to our Terms and Conditions

Why Is the Price-to-Book (P/B) Ratio Important? 

One of the most important metrics in share market analysis is the price-to-book (P/B) ratio, particularly when assessing businesses with significant physical assets like manufacturing, real estate, or banking. Investors can use it to determine if a stock is overpriced or undervalued associated with its book value, which is the net asset worth of the business as shown on its balance sheet (total assets less liabilities).

Formula and Calculation of the Price-to-Book (P/B) Ratio

The Price-to-Book Ratio maintains the connection between the net value of a company's assets as shown on the balance sheet and the entire value of its outstanding shares. 

As a result, investors must first determine the market capitalisation of a company by multiplying the current market price of its stocks by the total number of outstanding shares. 

Market Capitalisation = Market Value of a Stock x Number of Outstanding Shares 

Second, the net worth of an organization's assets must be ascertained by investors. To do this, they must subtract the total value of all debts and liabilities from the book values of all the assets shown on a company's balance sheet. 

Book Value of Assets = Total Assets – Total Liabilities 

This figure indirectly illustrates an organization's equity worth.

However, the following is the formula for price to book value: 

P/B Ratio = Market Capitalisation / Book Value of Assets

As an alternative, investors can use the following formula to determine the Price to Book Ratio: 

P/B Ratio = Market Price Per Share / Book Value of Assets Per Share

Advantages of Using PB Ratio

The primary advantages of PB ratio are as follows. 

• Valuation Insights: The P/B ratio can be used to compare the market price of a stock with its book value, or net assets. Low P/B ratios (often less than 1) can be a sign of undervaluation for value investors looking to identify businesses trading below their intrinsic value. 
• Risk Assessment: The P/B ratio aids in assessing a company's financial viability by comparing its market price with its tangible assets. Companies' P/B ratios decrease during market downturns by having strong asset bases and a margin of safety.
• Comparative Analysis: By comparing businesses in the same industry, the P/B ratio can be used to determine whether a company is charging a fair price compared to its rivals.

Limitations of Using the Price-to-Book (P/B) Ratio

The limitations of using the price-to-book ratio are as follows. 

• Future Earnings Potential: An important factor in evaluating a company's actual worth is its potential for future earnings, which the PB ratio overlooks. 
• Intangible Assets: The PB ratio does not account for intangible assets, such as intellectual property and brand value.  Hence, it could provide a wrong estimate of the company's value. 
• Accounting Standards and International Comparability: Businesses use a variety of accounting standards. This can make the P/B ratio less comparable, particularly for firms that operate in multiple nations.   
• Limited Applicability to Some Industries: The balance statements of service and IT companies frequently show very few physical assets. As a result, the PB ratio is less helpful in assessing their worth. Investors should think about other valuation metrics and exercise caution when depending only on the price-to-book ratio for these kinds of businesses.

Conclusion
When investors need to assess a company's valuation, the price-to-book, or P/B, ratio is a helpful financial tool. It is important to analyse other financial indicators and market developments rather than using them individually. Many share market apps offer various tools for stock market investment nowadays which may help you find out what is good PB ratio for a company.. Investors should do extensive study and consider a variety of aspects before making a selection, just like they should with any other investment.