Debt does matter. I check it in a number of ways. I check the Long Term Debt of a company against the market cap. Since I am doing a ratio, I am looking for Debt/Market Cap Ratio approaching 1.00. Look for any large change in debt especially a debt increase. It is a warning sign if in a normal market your stock has this ratio approaching or higher than 1.00. If this occurs because of a severe bear market when all stocks have their market cap cut, I would not be so worried.
This is the thing that was pointed out with Valeant Pharmaceuticals and Debt. Of analysts seem to point it out after the fact. It is also the reason I would be cautious about Innergex Renewable Energy (TSX-INE, OTC-INGXF) which had a ratio of Long Term Debt/Market Cap Ratio of 1.63. Analysts have pointed out that the company owns good assets, but the high Debt/Market Cap Ratio seems to point to the fact that the market does not agree.
Another type of ratio I look at is the Intangible/Market Cap Ratio. This covers both Goodwill and Intangible assets. If this ratio is approaching 1.00 or is above 1.00 I think that the company has a problem. It is obvious that the market does not consider the value attached to Goodwill and/or Intangibles by the company to be valid. Often when this happens you are looking at possible write-downs of these items.
I also look at Leverage (Asset/Book Value Ratio) and Debt/Equity Ratios. These can vary depending on the sector your stock is in. Here it is important to know the normal ratios for the sector your stock is in. Consumer stocks tend to be with Leverage Ratios at around 2 and below and Debt/Equity ratios around 1 and below. On the other hand banks have high ratios with Leverage Ratios at around 16.00 to 18.00 and Debt/Equity ratios around 14.00 to 17.00.
I look at Liquidity Ratios. It is best that this ratio be 1.50 and above. If this ratio is lower than 1.00, it means that current assets cannot cover current liabilities. This is not a great situation. However, some companies, especially utilities, partially cover current liabilities with current cash flow. This is fine when the company's cash flow is dependable. The problem with low Liquidity Ratios is that it leaves the company vulnerable in bad times.
I also look at Debt Ratios. That is Assets compared to Liabilities. Here you do want the ratio to be 1.50 or better. This gives room for safety. If the ratio is below 1.00, it means that assets cannot cover current liabilities. When the ratio is below 1.00 you will have a negative book value. The book value is seen as the breakup value of the company. So if you have a negative book value, it means that the company is not worth anything. This may not be strictly true as a company may have assets that are worth more than the assets book value.
For addition readings on debt start at Investopedia with an overview of debt.
On my other blog I wrote yesterday about Crescent Point Energy Corp. (TSX-CPG, NYSE-CPG)... learn more. Tomorrow, I will write about Finning International Inc. (TSX-FTT, OTC-FINGF)... learn more on Friday, December 2, 2016 around 5 pm.
This blog is meant for educational purposes only, and is not to provide investment advice. Before making any investment decision, you should always do your own research or consult an investment professional. I do research for my own edification and I am willing to share. I write what I think and I may or may not be correct.
See my site for an index to these blog entries and for stocks followed. I have three blogs. The first talks only about specific stocks and is called Investment Talk. The second one contains information on mostly investing and is called Investing Economics Mostly. My last blog is for my book reviews and it is called Non-Fiction Mostly. Follow me on Twitter.