Toby Lang sends: Book Value is a pretty easy one, compared to the price-to-earnings. So let’s get into it - we will need it for other calculations.

What Is It?
(Total Assets – Intangible Assets (Goodwill) – Total Liabilities)

What Does It Tell Us?
As with the price-to-earnings ratio, imagine that you are buying a company - but instead of running the company you are closing it out and selling off all the assets. Of course, no one is going to let you walk out the door without paying the bills, so to do that you have to pay off the debts first.

If you have $1,300mm in current assets, current and long-term Liabilities of $600mm, and preferred shares with a par value of $450mm, then you have a book value of:

(Total Assets – Intangible Assets (Goodwill) – Total Liabilities)
($1,300mm - $600mm - $450mm) = 250mm.

Basically, if you close up shop after you buy the company and pay off the bills, you pocket $250mm - how good a deal this is depends on the price-to-book value, discussed below.

What Does Graham Use?
A book value of greater than 0. The company has to have enough assets to pay off the liabilities that will come due - in other words, it has to be able to afford its own future.

The example above showed a calculation of net tangible book value. Now what? Consider the price-to-book of the stock.

What Is It?
Market Price per Share/Book Value per Share
where BVPS = (Book Value / Total number of Shares outstanding)
or,
Market Capitalization/Net Book Value

What Does It Tell Us?
We looked at price-to-earnings in the previous section. Price-to-earnings showed us what we were paying for as it relates to money coming in the front door, but what about the stuff the company already has? If you bought a company, I imagine you would be interested in what machines the company owns, any buildings, real estate or even vehicles - and also very interested what they owe. This is what price-to-book ratio does for us. From the above example, we come out with a book value of $250mm (the amount left after selling all assets and paying off all liabilities). If there are 900mm shares of stock outstanding, that gives us a BVPS of $.28; if the stock costs $1 that gives us a price-to-book ratio of 3.57x.

Summary
The higher the price-to-book ratio, the higher we have to pay to get our hands on the assets of the company after the debts are paid. We love a low number then.

What Does Graham Use?
“Current price should not be more than 1 1/2 times the book value last reported.”

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