While price-to-earnings and price-to-sales are the first to cross one’s mind while using valuation metrics, the price-to-book ratio (P/B ratio) is also a convenient valuation metric.
The P/B ratio measures how much an investor needs to pay for each dollar of book value of a stock. It determines whether a company’s asset value is comparable to the stock’s market price or not and hence can be useful for finding value stocks
P/B ratio = market capitalization/book value of equity.
Understanding Book Value
Book value is usually denoted on a company’s balance sheet as “stockholder equity. There are several ways by which book value can be defined. It 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 will equate 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 the book value.