March 4, 2002; Weak Hands Hold Energy Infrastructure 

A funny thing has happened on the way to deregulation.  Regulated companies grew accustomed to high levels of debt when the companies were protected by regulation from default.  Many have continued to carry those high levels of debt in an increasingly deregulated environment where protection from default is up to the market place rather than a friendly regulator.  We are seeing the consequences of that in the bankruptcy of Enron and in the stock market failure of one infrastructure stock after another. 

For a quantitative measure of debt exposure we calculate the ratio of debt to present value.  We place the measure in the second column from the right in our valuation tables suggesting that it is the second number to look at after McDep Ratio (see Tables L-1, M-1, S-1).   The strongest companies, the Mega Caps, have a median ratio of debt of 0.14. At the other extreme, Mid Cap Energy Infrastructure companies have a median ratio of debt of 0.54.  We are leery of any company with a ratio of debt over 0.50.  When we have made exceptions, we have regretted it.  Thus we have to conclude that energy companies with ratios of debt over 0.50 are in effect, "junk stocks". 

That doesn't mean that a shrewd investor could not make money with junk stocks.  It just means that we don't feel confident we can know enough to make a good long term return in those stocks on a risk-adjusted basis. 

There is opportunity in the debt woes of infrastructure stocks.  Assets are likely to shift from weak hands to strong hands at attractive prices for the buyers.