By Michael Kaye Leverage, when judiciously applied, can benefit a company greatly -- especially when economic times are good. That's because a company's borrowing costs can be easily covered if revenues and cash flow are strong.
However, what happens when a company has a significant degree of leverage -- and its financial performance suffers? That's the question we posed for this week's screen. We looked for companies with a
long-term debt-to-capital ratio above 40%.
From that list, we looked for those outfits performing poorly, as measured by
return on equity (ROE). We sifted for businesses with an ROE below 5% (by comparison, the average ROE for companies in the S&P 500-stock index is just above 9%) -- a potential signal that their performance may be hindered by their high debt levels. This could spell trouble for their stockholders -- and signal a greater degree of risk in owning the shares.
Just to make sure that the prospects for these stocks were poor on a fundamental basis, we looked for those with S&P's two lowest investment rankings: 1 STAR (sell) and 2 STARS (avoid). That means our analysts expect them to underperform the overall market by a significant degree over the next 6 to 12 months.
Here are the seven stocks that emerged:
High leverage, poor returns
S&P STARS Rank
Boise Cascade (BCC)
GATX Corp. (GMT)
Park Place Entertainment (PPE)
Valero Energy (VLO)
Kaye is a portfolio services analyst for Standard & Poor's