P/B- Price/Book
Price/Book (P/B) is another widely used indicator for ranking cheap versus expensive companies. It hasn’t got anything to do with earnings and only measures the value of the company’s book values versus market value.
If the share price is $90 and the book value is $75, then P/B will be 1.2. The market value will, therefore, be higher than the book value.
Book values are assets minus liabilities. This corresponds to the same as shareholder’s equity (book equity) and can easily be read out of the balance sheet. This number is then divided by the number of outstanding shares, which then gives the book values per share.
When a company has a low P / B, for example below 1, it means that the market may think the values in the balance sheet are overvalued, or that the company has an uncertain future. For example, a deficit over time will cause values to erode.
But most often low P / B is due to the company or industry being in trouble, temporarily or permanently, or the industry is one of very volatile earnings. It could be that the company is in a turnaround operation or that the industry as a whole is in a cyclical downturn. You also need to look at a company’s ability to make a profit on its assets.
A company that has a large return on invested capital will almost always be traded higher based on P / B than a company that has a lower return.
Various surveys show that we can expect a connection between low P / B and future annual returns. German Star Capital looked at this relationship for the markets below from 1969 to 2015 (annual return over the next ten years):
| Country | P/B<1 | 1-1,5 | 1,5-2 | 1-2,5 | 2,5-3 | >3 |
| Australia | 12,2% | 8,6% | 7,3% | 5,1% | 4,9% | |
| Canada | 8,1% | 8,0% | 8,1% | 5,8% | 2,9% | |
| Denmark | 9,5% | 10,9% | 7,9% | 10,6% | 7,8% | 5,9% |
| France | 13,7% | 9,8% | 7,9% | 8,6% | 0,8% | 0,1% |
| Germany | 10,2% | 9,0% | 6,9% | 7,0% | 0,7% | |
| Hong Kong | 10,6% | 7,7% | 6,2% | 5,1% | 4,3% | 2,7% |
| Japan | 0,9% | -0,4% | 2,8% | -4,4% | ||
| Netherlands | 15,2% | 11,0% | 7,0% | 4,7% | 1,0% | -1,2% |
| Norway | 11,7% | 8,2% | 7,4% | 5,6% | 3,3% | 2,1% |
| Singapore | 8,7% | 6,7% | 3,9% | 2,7% | 1,4% | |
| Spain | 12,2% | 11,3% | 10,4% | 5,1% | 1,7% | 0,8% |
| Sweden | 17,0% | 16,5% | 13,9% | 12,3% | 11,1% | 4,9% |
| Switzerland | 11,0% | 12,8% | 11,1% | 8,8% | 6,7% | 1,3% |
| UK | 12,9% | 11,7% | 7,8% | 6,2% | 4,6% | 0,9% |
| USA | 13,9% | 11,7% | 12,6% | 8,6% | 7,6% | 0,7% |
| MSCI countries | 13,9% | 9,9% | 7,7% | 6,3% | 4,5% | 0,6% |
From the above table, it is clear that the higher the P / B, the lower the expected future return over the next ten years. When a market’s P / B is historically low, there is reason to believe that this works very well as a “timing” indicator for a country or industry.