P/​​B Ratio

Assume you want to start a business from scratch but are still determining what to sell. Since analysing each business niche can be quite challenging, you then look at the competition in different industries, the initial investment required, profit margin, and various other parameters to take the next step. Clearly, you would not want to rely only on your instinct to invest but go about it systematically by analysing different parameters.

Investing in the stock market follows a similar initial trajectory that involves considering various crucial market-related parameters, one of which is the P/B ratio. Want to know more about it before starting your investment journey? Keep reading.

What is P/B Ratio?

The Price to Book Value ratio, also known as the PBV ratio, symbolises the market’s perception of a company’s stock value. Explaining it in parts, a company's book value is the difference between the book value of assets and the book value of liabilities. It can be obtained from its balance sheet and denotes how much price you (as an investor) should pay as an equity investor for each rupee in the company’s net assets.

Given below is P/B ratio formula:

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

Here’s what more you should know about the P/B ratio meaning:

● Many companies listed in the stock market have a P/B ratio greater than one. This means that their market value is higher than the book value. It also implies that investors may pay a price higher than the book value expecting the company to generate high earnings in the times ahead.
● A company’s stock with a price-to-book value ratio of 5 means that you are willing to pay Rs. 5 for every Re. 1 of the book value.
​ ● For many investors, companies having lower P/B ratios can be considered more valued than those with higher ratios.

Understanding PBV Ratio with an Example

Assume a company named ABCDE has a stock price of Rs. 4,000, and its most recent book value per share is Rs. 1,000 On the other hand, another company named QWERT has a stock price of Rs. 6,000, and the current book value per share is Rs. 2,000 Using the following P/B ratio formula, the calculations are given below:

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

As given in this example, the company QWERT has a comparatively lower P/B Ratio and hence, is better valued in the eyes of many investors.

Investors should compare the P/B ratio of Companies of similar size and in similar industries; otherwise, the comparison results could be misleading.

Why Should You Consider P/B Ratio Before Investing Money?

● A company’s PBV ratio can help you better understand if its stock is reasonably priced compared to its balance sheet.
● Considering the P/B ratio of companies holding tangible assets is crucial as they will have a significant book value.
● A company having a P/B Ratio below one means it is trading below its book value. It also implies that its shares are undervalued. Knowing the reason behind the low price of shares below the book value will help you make the right investment decision.

Does Analysing P/B Ratio for Every Stock Make Sense?

● Investors do not consider this ratio while analysing value of IT stocks as lesser tangible assets are involved. Most of their assets include intangible patents.
● Many companies may either underestimate or overestimate their assets’ market price, leading to an inaccuracy in the P/B Ratio