ET Explainer: Price-to-Book Ratio
Price-to-Book ratio (PB ratio) is a popular measure to assess a company’s current value. ET looks at the interpretation and suitability of the PB ratio and how to use it effectively when assessing the valuation of a stock.
What is PB Ratio?
Price-to-Book ratio is a metric that investors use extensively to determine the valuation of a stock. It helps to understand if a stock is undervalued or overvalued.
How is the ratio calculated?
It is calculated by comparing the current market price of a stock with its book value.
The book value is a measure of a company's total assets excluding its total liabilities. For example: A company has assets worth Rs 40 crore and liabilities worth Rs 20 crore. The number of outstanding shares is 10,000 and the company’s stock is trading at Rs 200.
The book value per share will be Rs40 crore minus Rs20 crore divided by 10,000=2000. Now, the PB ratio will be 200/2000=0.1
How to use the PB ratio?
PB ratio is a relative valuation metric which means that the PB ratio of a company is compared with an industry peer. It is also used to compare a company’s current valuation with the historical one.
In theory, a PB ratio above 1 usually implies that the market price is trading above the company's book value. The higher the PB ratio, the more expensive is a stock, and vice versa. “Stocks with high PB ratio are usually considered expensive which could be a function of their elevated growth expectation,” said Karthik Kumar, fund manager, Axis Mutual Fund.
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