Choose These 5 Price-to-Book Value Stocks for High Returns

Kinjel Shah
7 min read

In This Article:

In value investing, it is a common practice to pick stocks that are cheap but fundamentally strong. There are a number of investment styles to cater to investors looking for the best value stocks.

Among them, the price-to-book ratio (P/B ratio) is an easy-to-use tool for identifying low-priced stocks, which have high growth prospects.

The P/B ratio is used to calculate how much an investor needs to pay for each dollar of book value of a stock. It is calculated by dividing the current closing price of the stock by the latest quarter's book value per share.

P/B ratio = market capitalization/book value of equity.

The P/B ratio helps to identify low-priced stocks with high growth prospects. KB Home KBH, General Motors Company GM, The Greenbrier Companies GBX, JD.com JD and Barrick Gold Corporation GOLD are some such stocks.

Now, let us understand the concept of book value.

What is Book Value?

There are several ways by which book value can be defined. Book value is the total value that would be left over, according to the company’s balance sheet, if it goes bankrupt immediately. In other words, this is what shareholders would theoretically receive if a company liquidates all its assets after paying off all its liabilities.

It is calculated by subtracting total liabilities from the total assets of a company. In most cases, this equates to common stockholders’ equity on the balance sheet. However, depending on the company’s balance sheet, intangible assets should also be subtracted from the total assets to determine book value.

Understanding P/B Ratio

By comparing the book value of equity to its market price, we get an idea of whether a company is under or overpriced. However, like P/E or P/S ratio, it is always better to compare P/B ratios within industries.

A P/B ratio of less than one means that the stock is trading at less than its book value or the stock is undervalued and, therefore, a good buy. Conversely, a stock with a ratio greater than one can be interpreted as being overvalued or relatively expensive.

For example, a stock with a P/B ratio of 2 means that we pay $2 for every $1 of book value. Thus, the higher the P/B, the more expensive the stock.

But there is a warning. A P/B ratio of less than one can also mean that the company is earning weak or even negative returns on its assets or that the assets are overstated, in which case the stock should be shunned because it may be destroying shareholder value. Conversely, the stock’s price may be significantly high — thereby pushing the P/B ratio to more than one — in the likely case that it has become a takeover target, a good enough reason to own the stock.

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