Using debt as a selection criterion

[teecee90]

Of all the criterion that I apply when deciding whether to add or top-up my HYP it is debt levels that I find most difficult to measure and assess. Looking back at the original PYAD selection rules, this is an area that seems quite vague, stating "Try to look for the lowest debt levels though in some cases you could include a very small number of higher than average debt companies possibly."

How do others do this?
Is there a specific ratio or measure that you apply?
Where do you go to get the information?
Do the rules vary by sector (PYAD seemed to imply higher debt was Okay for utilities for example)?

Thanks...

[NeilW]

Net Gearing less than 100% is my starter for ten.

I may move that to 'interest cover' for those firms with good access to the debt markets - like the utilities for example, or where the assets are largely human capital (technology companies).

Debt can sink a firm fast if there is a cashflow wobble. Leveraged specialist retailers being the favourite victim of a change in fashion.

[moorfield]

I use a leverage ratio, of which there are various definitions, but a simple one which I find is easy to compute from companies' balance sheets in their annual reports is: 1 + Long Term Liabilities/Equity (*). Personally I don't fit any precise HYP selection criteria around this, but instead use it to monitor change over time and make comparisons.

For example, from the numbers I have to hand for my own holdings:

Astrazeneca (AZN) - has recently started increasing its debt.


Unilever (ULVR) - debt level looks consistent.



(*) eg. a company with no long-term liabilities would have a ratio of 1.0, a house buyer with a 10% deposit would have a ratio of 10.0

[UncleEbenezer]

Net Gearing less than 100% is my starter for ten.

A dangerous measure. If a company's fortunes take a downturn, the debt amplifies it, and in turn the gearing shoots up, all without any new borrowing. And a company that doesn't print its own currency can't just inflate its way out of that hole.

What was Carillion's net gearing six months ago? What is it now?

Or if that's clouded by accounting questionmarks, how about some of the casualties of the "credit crunch". Companies like PFD whose debt looked manageable at FTSE-100 valuations, but became a problem when they crashed to small-cap status.

[moorfield]

What was Carillion's net gearing six months ago? What is it now?

I have the aforementioned numbers to hand for Carillion also.



As with their cashflow statement, it's easy in hindsight to spot that the rot started from 2012-13. Lesson learnt!

[NeilW]

A dangerous measure.

Well it very much depends how you calculate it.

Carrillion's net gearing will be exactly the same as it was six months ago because they haven't issued their year end accounts as yet. The year end is December.

I use the Company REFS formula. (Debt - Cash)/ Shareholder's Funds

So in Carrillion's case that is (3703.20 - 516.20)/ 729.90 * 100

or 436.6%

Net Gearing has nothing to do with market value IMV.

[monabri]

Stockopedia reports from end of Jan 2017 (Imagine that it's the end of Jan 2017 and you are making a decision based on gearing numbers alone!)




Clearly time to dump those Unilever shares....

edit: and at ~300% time to review BATS....

all based on the numbers reported alone.