There are many investors that equate the movement of a stock?s price with its risk. Thing is, that may be a bad way to think about risk. As investor extraordinaire Charlie Munger once said, ?Using volatility as a measure of risk is nuts.?
So, what?s a better way? That would involve studying a stock?s business fundamentals. After all, it?s a company?s business performance which drives its stock price over the long-term.
One important aspect of a company?s business fundamentals ? though it?s not the only crucial thing – is its balance sheet. Companies with high debt…
There are many investors that equate the movement of a stock’s price with its risk. Thing is, that may be a bad way to think about risk. As investor extraordinaire Charlie Munger once said, “Using volatility [the movement of stock prices] as a measure of risk is nuts.”
So, what’s a better way? That would involve studying a stock’s business fundamentals. After all, it’s a company’s business performance which drives its stock price over the long-term.
One important aspect of a company’s business fundamentals – though it’s not the only crucial thing – is its balance sheet. Companies with high debt levels can give their shareholders plenty of headaches when their business environments inevitably worsen temporarily every now and then. The London-listed miner Glencore PLC is a good example.
Last September, Glencore announced that it had to embark on a series of drastic measures in order to protect its balance sheet as a result of its business getting hammered from falling commodity prices. The measures included the elimination of its dividend, which is obviously a painful thing for its shareholders.
At the moment, there are many companies in Singapore with a high net-debt (total borrowings and capital leases minus cash and short-term investments) to equity ratio of over 100%. All things being equal, the higher the ratio is, the more debt a company has.
Some of the larger companies – those with a market capitalisation of over S$500 million – with this financial trait include Cosco Corporation (Singapore) Limited (SGX: F83), Ezion (SGX: 5ME), Olam International Ltd (SGX: O32), and Sembcorp Marine Ltd (SGX: S51).
This is not meant to say that the quartet above – or any highly leveraged company for the matter – will necessarily be in trouble going forward. But, the act of them having slapped on lots of debt onto their balance sheets have made them potentially risky stocks and that’s something that their current and prospective investors may want to think about.
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The information provided is for general information purposes only and is not intended to be personalised investment or financial advice. Motley Fool Singapore writer Chong Ser Jing doesn't own shares in any companies mentioned.