Do Your Stocks Have Borrowing Trouble?
Sectors that Carry High Debt
Companies with High Debt to Equity
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Do Your Stocks Have Borrowing Trouble?
Over the weekend, an article in USA Today caught my eye as it mentioned Hostess Twinkies—one of my favorite snacks! You may remember that Hostess basically went out of business a couple of years ago due to union problems, but was resuscitated by private equity firms Apollo Global Management and Metropoulos & Co.
Hostess is making news today as it is issuing $1.23 million in term loans—most of which will go toward paying $905 million in a special dividend to its private shareholders—which I may add, is also more than two times what the buyers paid for this tasty snack business, and triples the company’s debt.
According to Bloomberg, these types of deals grew to nearly $16 billion in the second quarter, the highest level in the past 12 months. I’m not making a judgment for or against this action. I just want to make a point that this debt, or leverage recapitalization—spurred by low interest rates—is increasingly becoming a method in which private equity holders get their money back—without selling the business. But it does burden the company with additional debt, which isn’t going to fund company expansion or operations.
And in a recovering economy in which consumers have paid their total debt down by 18% since 2007 (according to McKinsey), corporate debt has edged up by 2% during that same period. Certainly, a 2% rise doesn’t sound like much, but rising debt can heavily impact a company’s business when rates begin to rise—which will probably happen by the end of 2015.
Not only will companies have to pay higher interest charges, but the larger debt load can hamper their expansion activities, as more cash flow will be dedicated to repaying that debt.
Sectors that Carry High Debt
In January, the NYU Stern School of Business issued a report showing that in 95 sectors surveyed, the average debt to equity ratio was 61.57%.
For second quarter, CSI Market reported that the industry with the lowest debt was Technology, with a debt/equity ratio of 40%, and the most debt rested with the Financial sector, with 259%.
I recently did a bit of my own research to see how my favorite sectors were faring. I compare them every quarter to use them as a gauge of economic improvement. Here are my findings.
I’m happy to report that while debt is expanding, companies in these sectors do not appear to be overindulging—so far.
Companies with High Debt to Equity
I also ran a screen to look at the most widely-held stocks that report the largest percentages of debt to equity. Here are a few that may be in your portfolio:
Again, these results also looked pretty good (other than the first couple, whose industries have huge capital outlays requiring debt).
Bottom line: so far, so good. But looking longer-term, rising interest rates can hurt the companies and sectors with the most debt. Of course, if the company is using that debt to expand sales and earnings, it may not become a problem. But if it’s using debt to pay dividends that it may not need to pay, or funding operations that are not producing bottom-line results, you may want to kick it out of your portfolio.
Keeping a close watch on the debt picture of your investments will help you see if a storm is coming, so that you can eliminate the problem before it happens.
Sincerely,
Nancy Zambell, Dividend Digest and Investment Digest
