Charles: In the 1990's, a lot of compannies discovered that asset values are not nearly as important as current and future earnings in terms of growing share price. By taking oft-recurring "non-recurring" charges against earnings, companies have been able to take certain future expenses off the books in the current period, leaving earnings in future periods greater than they otherwise would be.
However, these "special charges" must still be reflected on the balance sheets as reductions in assets, and therefore, equity. With equity thus shrunken, the debt to equity ratio appears bigger than otherwise.
A measure of this is the fact that the S&P 500's p/e of 32 (as of 1/8/99) is a bit more than twice the historical average. Whereas, its price to equity ratio is over 6.5, which is 5 or 6 times the historical average. And, this has the effect of making the Market's return on equity appear larger than otherwise, likewise because of the artificial shrinkage of equity values.
A truer measure, I think, of IBM's debt situation is the 13:1 earnings to interest expense ratio that Value Line lists. Of course, to the extent that IBM's earnings are exaggerated, this ratio is not as favorable as it appears. But, even an extreme 20% "fudge factor" reduction in IBM's earnings would leave the interest coverage ratio in excellent shape. |
