Price/book ratio

Updated August 2018

Book value is also known as equity, shareholders’ funds, or net asset value (NAV). It is the value of all of a company’s assets, less all of its liabilities (debts).The number can easily be found on the balance sheet in a company’s annual report.

Book value is sometimes used as an estimate of what a company would be worth if all of its assets were sold for their balance-sheet values. It’s often used as a way to value companies such as banks, housebuilders, and insurers.

When you know the book value, you can get an idea of how cheap or expensive a share is by dividing the share price by the book value per share (hence the price/book, or p/b, value ratio). A p/b of below one means that – technically speaking – you are able to buy the company for less than its assets are worth on paper. In other words, if you could buy the whole company, you could sell everything it owned, and still make a profit.

One potential problem with this, of course, is that the book value of a company may not reflect what you would actually get were you to sell its assets. In particular, it may contain lots of “intangible assets”, such as goodwill (which often relates to the value of a “brand”), which – unlike a factory or a piece of land – can be very tricky to measure objectively.These intangibles may in fact not be worth very much at all – particularly not in a firesale.

So just as with the price/earnings ratio, an unusually low p/b number could indicate a company in trouble, rather than a potential bargain. By subtracting the intangible assets from a company’s book value, you end up with a more conservative number, known as “tangible” book value, based on hard assets, such as land, buildings, machinery, stocks and cash.You can then divide this figure by the number of shares to get tangible book value per share. If you can buy a stock for a lot less than this figure (a relatively rare event), you may be getting a genuine bargain.

• See Tim Bennett’s video tutorial on the price to book ratio: Beginner’s guide to investing: the price-to-book ratio