Price to book

Book value is total assets minus total liabilities: what the accounts say would remain for owners if everything were sold at carrying value and the debts repaid. Price to book compares the share price against that figure per share, so a $30 share with $20 of book value per share trades at 1.5x.

Below one, the market values the company at less than its accounting net worth. That usually reflects a view that the assets are carried above what they would fetch, or that the business will consume value from here, rather than an oversight by everybody else.

Tangible book value strips out goodwill and other intangibles, most of which arise from acquisitions and would not survive a sale. For a company that has grown by acquisition the two figures can differ substantially, and the tangible version is the more conservative one.

For a bank or an insurer the balance sheet largely is the business. The assets are loans and securities carried at values frequently marked to market, so book value is a reasonably current estimate of net worth rather than a historical artefact. Bank valuations are commonly quoted as a multiple of book for that reason.

Even here the ratio is a statement about asset quality. A bank trading well below book is usually one whose loan book the market does not trust, and the discount is a rough measure of how much of that book is believed to be overstated.

It applies for similar reasons to closed-end funds, investment trusts and property companies, where the assets are marked and a net asset value per share exists independently of the share price.

Accounting rules require most spending on research, brands, software and training to be expensed as it occurs rather than recorded as an asset. The things that make a modern company valuable are therefore largely missing from its book value, and the ratio divides a price that reflects them by a figure that does not.

The consequence is that high price-to-book ratios cluster in exactly the industries where the measure means least. Comparing a software company against a manufacturer on this basis compares two accounting treatments rather than two businesses.

Acquisitions make it worse in the opposite direction. A company that buys another records goodwill on its balance sheet, so it carries an asset for the intangibles it purchased while a competitor that built the same capability internally carries nothing.

Sustained buybacks reduce book equity directly, because the cash spent leaves the balance sheet and the shares retired do not replace it. A company can therefore raise its price to book without the price moving at all.

Taken far enough, equity turns negative. Several large and profitable companies now report negative book value for this reason, and the ratio becomes meaningless rather than merely high: a negative denominator produces a negative multiple, which is not a valuation.

Book value per share is only meaningful beside a price on the same basis. Where a company has multiple share classes, the reported figure may be per share of a class other than the one quoted, which produces a ratio wrong by the conversion factor rather than a cheap valuation.

A reported price to book of exactly zero indicates a figure that was not computable rather than a company available for nothing. Any ratio far outside the ordinary range is a data question before it is a valuation question.

Screening for low price to book across the whole market, which returns banks, cyclicals at their peak, and companies whose assets are worth less than the accounts say.

Comparing the ratio between an asset-heavy and an asset-light business.

Ignoring goodwill, which can be a large share of book value at an acquisitive company and is the first thing written down when an acquisition disappoints.

Reading a rising ratio as a rising valuation when buybacks are shrinking the denominator.

Treating book value as liquidation value. It is a carrying value under accounting rules, and a forced sale realises less.