Risk-averse investors who can’t buy high priced stocks are always on the lookout for low-priced valuable stocks. As it is, finding the right stock that matches all your criteria is not an easy task. On top of that, choosing a stock that offers great value but is trading cheap at the same time is a herculean task.

Thus value analysis is the best approach to identify great bargains. Though price to earnings (P/E) and price to sales (P/S) valuation tools are more commonly used for stock selection, the price-to-book ratio (P/B ratio) is also an easy-to-use metric for identifying low-priced stocks with high-growth prospects. The P/B ratio is calculated as below:

P/B ratio = market capitalization / book value of equity

Explaining the P/B Ratio

To begin with, it is important to understand what book value is. Book value 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 total assets of a company. In most cases, that would equate to the common stockholders’ equity on the balance sheet. However, depending on the company’s balance sheet, intangible assets should also be subtracted from total assets to determine the book value.

By comparing book value of equity to its market price, we get an idea of whether a company is under- or overpriced. However, like P/E or P/S ratio, it is always better to compare P/B ratios within industries. 

A P/B ratio less than one means the stock is trading at less than its book value, which can also mean the stock is undervalued and therefore a good buy. Conversely, a stock with a ratio greater than one can be interpreted as being overvalued or relatively expensive.

But there is a caveat. A P/B ratio less that one can also mean that the company is earning weak or even negative return on its assets, or the assets are overstated, in which case the stock should be shunned because it may be destroying shareholder value. Conversely, the stock’s share price may be significantly high – thereby pushing the P/B ratio to more than one – in the likely case that it has become a takeover target, a good enough reason to own the stock.

Moreover, the P/B ratio isn't without its limitations. It is useful for businesses – like finance, investments, insurance and banking or manufacturing companies – with many liquid/tangible assets on their books. However, it can be misleading for firms with large R&D expenditures or high-debt companies or service companies or those with negative earnings.

In any case, the P/B is not particularly relevant as a standalone number. One should also analyze other ratios like P/E, P/S, and debt to equity before arriving at a reasonable investment decision.

The Winning Screen

Price to Book (common Equity) less than X-Industry Median: A lower P/B compared with the industry average implies that there is enough room for the stock to gain.

Price to Sales less than X-Industry Median: The P/S ratio determines how much the market values every dollar of the company’s sales/revenues — a lower ratio than the industry makes the stock attractive.

Price to Earnings using F(1) estimate less than X-Industry Median: The P/E ratio (F1) values a company based on its current share price relative to its estimated earnings per share –  a lower ratio than the industry is considered better.

PEG less than 1: PEG ratio links the P/E ratio to the future growth rate of the company. PEG ratio portrays a more complete picture than the P/E ratio. A value of less than 1 indicates that the stock is undervalued and investors need to pay less for a stock that has robust earnings growth prospect.

Current Price greater than or equal to $5: They must all be trading at a minimum of $5 or higher.

Average 20-Day Volume greater than or equal to 100,000: A substantial trading volume ensures that the stock is easily tradable.

Zacks Rank less than or equal to #2: Zacks Rank #1 (Strong Buy) or 2 (Buy) stocks are known to outperform irrespective of the market environment.

Value Style Score equal to A or B: Our research shows that stocks with a Value Style Score of ‘A’ or ‘B’ when combined a Zacks Rank #1 or 2 offer the best opportunities in the value investing space.

Here are five stocks that qualified the screening:

Xerox Corporation (XRX - Analyst Report) is a leader in the development, manufacture, marketing, servicing and financing of document equipment across the world. The stock currently has a Zacks Rank #2 and a Value score of ‘A’. The company’s projected 3–5 year EPS growth rate is 10.0%.

Lannett Company, Inc. (LCI - Snapshot Report) makes generic versions of branded pharmaceutical drugs. The company currently has a Zacks Rank #1 and a Value score of ‘A’. The company’s projected 3–5 year EPS growth rate is 17.50%.

Semiconductor Manufacturing International Corp. (SMI - Snapshot Report) is a leading global semiconductor foundries headquartered in Shanghai, China. The stock currently has a Zacks Rank #2 and a Value score of ‘A’. The company’s projected 3–5 year EPS growth rate is 15.50%.

Blucora, Inc. (BCOR - Snapshot Report) is engaged in providing internet-based solutions for consumers and business partners. The company carries a Zacks Rank #2 and a Value score of ‘B. The company’s projected 3–5 year EPS growth rate is 20.00%

Korea Electric Power Corp. (KEP - Analyst Report) , also known as KEPCO, is an integrated electric utility engaged in the generation, transmission and distribution of electricity as well as development of electric power resources in South Korea. This Zacks Rank #1 stock has a 3–5 year EPS growth rate of 25% and a Value score of ‘A’.