Re-think Debt to Capital Ratio
Re-think the use of the Debt to Capital Ratio (D/C). Most members don’t understand what capital is. I have always assumed it is a measure of the financial strength of a company. If that’s the case, the ratio ignores the ability of the company to service its debt and its available cash, equivalents and marketable securities. Either make a strong argument for retaining the ratio, or consider other measures of the financial strength of companies in general. Consider using the Debt to Equity Ratio (D/E) or Interest Coverage (or “Times Interest Earned”) as a means to measure the financial strength of a company. Other factors to consider are:
D/C = D/(E+D) which = 100% when Equity goes to zero.
D/E = infinity when Equity goes to zero.
Interest Coverage = PTP/Net Interest
Companies rich in cash, equivalents and marketable securities often assume heavy debt when their sales have slowed and they are in transition intended to re-vitalize the company. Some companies navigate that transition; others flounder around for a few years and then put on a new spurt of growth. Think about AAPL (in transition), MSFT (their new CEO appears to have given them new life) and HPE & HPQ (have gone through a long dark period. Maybe their new CEO’s have the magic to bring back the old HP).