Price to Book Ratio Explained (P/B) | Finance In 5 Minutes!

Rynance

29 Apr 202105:56

Summary

TLDRThe video script introduces the Price to Book (P/B) Ratio, a financial metric that compares a company's stock price to its net asset value. It explains the concept of book value, which represents the tangible assets minus liabilities, and how it's used to calculate the P/B Ratio. The script highlights that a low P/B Ratio indicates good value, while a high ratio suggests the stock is expensive. It also discusses scenarios where a P/B Ratio less than one or negative might signal undervaluation or insolvency. The video concludes with a practical example and a tip on where to find pre-calculated P/B Ratios, such as on Yahoo Finance.

Takeaways

📈 The Price to Book Ratio (P/B Ratio) is a financial metric used to evaluate a company's market price relative to its book value.
💼 P/B Ratio compares a firm's current stock price to its net worth, represented by tangible assets like cash, real estate, and machinery.
🚫 It's less useful for companies with significant intangible assets, such as technology firms, where value often lies in software and trademarks.
🔢 Calculated as the price per share divided by the book value per share, where book value is found by subtracting liabilities from assets and then divided by the number of shares outstanding.
💹 A low P/B multiple (e.g., 2 times) suggests the stock is undervalued, while a high multiple (e.g., 10 times) indicates it might be overvalued.
🏢 The ratio reflects investors' willingness to pay a premium for a company's ability to generate more value than its assets are worth.
⚠️ A P/B ratio less than one could indicate undervaluation or that the company's assets are outdated or overpriced.
❌ A negative P/B ratio is a red flag, suggesting the company's liabilities exceed its assets, posing a high risk for investors.
🔎 Price to Book Ratio can be found on financial platforms like Yahoo Finance under the 'Evaluation Measures' section.
💭 Investors use P/B Ratio alongside other valuation metrics to make informed investment decisions.

Q & A

What is the price to book ratio?
-The price to book ratio, also known as the PB ratio, is a valuation metric that compares a stock's current price to the net worth of the company's assets, also referred to as book value.
What is book value and why is it important in the context of the price to book ratio?
-Book value measures how much a company would be worth if it sold off all its assets and paid back all its liabilities. It includes tangible assets like cash, real estate, and machinery. It's important because the PB ratio uses the book value of a company's tangible assets to evaluate companies that build their businesses around these hard assets.
Why might the price to book ratio not be suitable for technology companies?
-The price to book ratio might not be suitable for technology companies because the value of a tech company usually lies in its intangible assets, such as software and trademarks, which don't have a physical monetary value attached to them.
How is the price to book ratio calculated?
-The price to book ratio is calculated using the formula: price per share divided by the book value per share. The book value per share is found by dividing the company's total book value by the total shares outstanding.
What does a low price to book ratio, such as two times, indicate about a stock?
-A low price to book ratio, like two times, is typically regarded as good value, indicating that the stock is currently cheap and may be undervalued by the market.
What could a high price to book ratio, such as 10 times, suggest about a stock?
-A high price to book ratio, like 10 times, usually indicates that the stock is more expensive or not good value for the current price per share, suggesting that investors are paying a premium for the stock.
Can you provide an example of calculating the price to book ratio using the fictional Sam's Scooter Company?
-For Sam's Scooter Company with a stock price of $50 per share, a total book value of $150 million, and 10 million shares outstanding, the book value per share is $15 ($150 million divided by 10 million shares). The price to book ratio is then calculated as 3.3 times ($50 divided by $15).
What does a price to book ratio of 3.3 times imply about a company's assets and market value?
-A price to book ratio of 3.3 times implies that the market is pricing the company's stock at 3.3 times the net value of its assets, suggesting that investors believe the company can use those assets to generate more value than the assets are worth.
What are the potential red flags that the price to book ratio can reveal about a company?
-Two potential red flags are a price to book ratio less than one, indicating the stock is trading at less than the book value, which could suggest the company is undervalued or its assets are outdated, and a negative price to book ratio, indicating the company is insolvent with liabilities greater than assets.
Where can investors find the price to book ratio for a company?
-Investors can find the price to book ratio for a company on financial information platforms like Yahoo Finance, where it is listed under the 'Evaluation Measures' section in the 'Statistics' tab.

Outlines

00:00

📈 Introduction to Price to Book Ratio

This paragraph introduces the concept of the Price to Book (P/B) Ratio, a financial metric used to evaluate a firm's market price relative to its book value. The P/B Ratio is calculated by dividing the stock's price per share by its book value per share. The paragraph explains that book value represents the net worth of a company's tangible assets, which are physical assets like cash, real estate, and machinery. It also notes that the P/B Ratio is particularly useful for companies with significant tangible assets, but less so for those with intangible assets like software and trademarks, such as technology companies. The video script emphasizes the importance of understanding the P/B Ratio for investors to assess whether a stock is overvalued or undervalued.

05:01

🔍 Calculating and Interpreting the Price to Book Ratio

This paragraph delves into the process of calculating the Price to Book Ratio, starting with the identification of a company's book value from its balance sheet, which is assets minus liabilities. It then describes how to find the book value per share by dividing the total book value by the number of shares outstanding. The script provides an example using a fictional company, Sam's Scooter Company, to illustrate the calculation. It explains that a P/B Ratio of less than one might indicate the stock is undervalued or that the company's assets are overvalued or outdated. A negative P/B Ratio suggests the company is insolvent, with liabilities exceeding assets. The paragraph concludes by highlighting the significance of the P/B Ratio in investor decision-making and how it can signal potential red flags about a company's financial health.

💻 Practical Use of Price to Book Ratio

The final paragraph of the script discusses the practical application of the Price to Book Ratio, particularly focusing on how investors can easily access this information. It mentions Yahoo Finance as a go-to source for financial data, where the P/B Ratio can be found under the 'Statistics' tab in the 'Evaluation Measures' section. Using AT&T as an example, the paragraph shows that the company has a P/B Ratio of 1.3 times, indicating it trades close to its book value. The script encourages viewers to share their stock evaluation processes in the comments and to explore more educational videos on the channel, concluding with a prompt for viewers to subscribe for further content.

Mindmap

Keywords

💡Price to Book Ratio (P/B Ratio)

The Price to Book Ratio, or P/B Ratio, is a financial metric used by investors to evaluate whether a stock is overvalued or undervalued. It is calculated by dividing the current market price per share by the book value per share. In the video, this ratio is central to understanding how much investors are paying relative to the net value of a company's assets. For instance, a low P/B ratio might indicate that the stock is undervalued, while a high ratio might suggest the stock is overvalued.

💡Book Value

Book Value refers to the net worth of a company's assets, calculated as total assets minus total liabilities. It represents what the company would theoretically be worth if it were to liquidate all its assets and pay off all its debts. In the context of the video, book value is used to determine the value of a company's tangible assets, which is crucial for calculating the P/B ratio. The script mentions that book value is found in the company's balance sheet and is used to calculate the book value per share.

💡Tangible Assets

Tangible Assets are physical assets that a company owns, such as cash, real estate, and machinery. These assets have a physical form and can be easily valued. The video emphasizes that the P/B ratio is most useful for companies that are built around tangible assets, as these are the assets that are included in the book value calculation. An example from the script is that a technology company, which often has more intangible assets, would not be a good candidate for P/B ratio analysis.

💡Intangible Assets

Intangible Assets are non-physical assets like patents, trademarks, copyrights, and goodwill. These assets do not have a physical form and their value is often derived from the rights or competitive advantages they provide. The video explains that the P/B ratio is less useful for companies with significant intangible assets, as these assets do not contribute to the book value, which is a key component of the P/B ratio calculation.

💡Liquidation

Liquidation in the context of the video refers to the process of selling off all a company's assets and using the proceeds to pay off its liabilities. It is used to illustrate what would happen if a company were to shut down and sell its assets to pay back its debts. The script mentions that if a company's stock price is significantly higher than its book value, the proceeds from liquidation might not cover the market value of the stock.

💡Multiple

In financial analysis, a 'multiple' refers to the ratio of a company's market value to a measure of its value, such as earnings or book value. In the video, the P/B ratio is described as a multiple, where a low multiple (like 2 times) might indicate good value, while a high multiple (like 10 times) might suggest the stock is overpriced. The script uses the example of Sam's Scooter Company to illustrate how a P/B ratio of 3.3 times indicates that the market values the company's stock at 3.3 times its book value.

💡Market Value

Market Value is the total value of a company as determined by the stock market, calculated by multiplying the stock price by the number of outstanding shares. The video contrasts market value with book value to explain the P/B ratio. It is used to show how investors are valuing the company in the current market compared to its net asset value. The script suggests that a high P/B ratio might mean investors are paying a premium for the stock based on expectations of future performance.

💡Red Flags

Red Flags in financial analysis are indicators that suggest potential problems or risks with a company's financial health. The video mentions two red flags related to the P/B ratio: a P/B ratio less than one, which might indicate the stock is undervalued or that the company's assets are overpriced or outdated; and a negative P/B ratio, which indicates the company is insolvent with more liabilities than assets. These red flags caution investors to exercise caution when considering an investment.

💡Yahoo Finance

Yahoo Finance is mentioned in the video as a go-to source for financial information, where investors can find pre-calculated P/B ratios and other financial metrics. It serves as an example of how investors can easily access and utilize the P/B ratio in their stock evaluation process without having to calculate it manually. The script encourages viewers to use Yahoo Finance to find the P/B ratio under the 'evaluation measures' section.

💡Investor

An Investor is someone who commits money to an asset with the expectation of generating earnings or capital appreciation. In the video, the target audience is investors who are looking to evaluate stocks using financial ratios like the P/B ratio. The script is designed to educate investors on how to interpret and use the P/B ratio to make more informed investment decisions.

Highlights

Price to book ratio (P/B ratio) is a valuation metric that compares a stock's current price to the net worth of the company's assets.

P/B ratio helps investors understand the price they are paying relative to the net value of a company's assets.

Book value measures how much a company would be worth if it sold all its assets and paid back liabilities.

Book value includes only tangible assets like cash, real estate, and machinery.

P/B ratio is most useful for companies with significant tangible assets, not intangible assets like software or trademarks.

The formula for P/B ratio is the price per share divided by the book value per share.

Book value per share is calculated by dividing the company's book value by the total shares outstanding.

A low P/B ratio, like two times, indicates that the stock is considered a good value or cheap.

A high P/B ratio, like ten times, suggests that the stock is expensive or not a good value for the current price.

An example calculation shows how to determine the P/B ratio for a fictional business, Sam's Scooter Company.

A P/B ratio of 3.3 times indicates that the market values the stock at 3.3 times the net value of the company's assets.

Investors may pay a premium for a stock if they believe the company can generate more value than its assets are worth.

A P/B ratio less than one could mean the stock is undervalued or that the company's assets are outdated or overpriced.

A negative P/B ratio indicates the company is insolvent, with liabilities exceeding assets.

Yahoo Finance is a recommended source for readily calculated P/B ratios and other financial information.

The video concludes with an invitation for viewers to share their stock evaluation processes and to subscribe for more educational content.