Value stock guru Benjamin Graham counseled, among other things, that the company of a good stock would possess a debt-to-equity ratio of less than one. Debt/equity is also known as "total liabilities"/"shareholders' equity." For around the last year or more, at the (granted sometimes flawed) finance.yahoo site, every stock I checked had "N/A" for the debt-to-equity ratio. Before the financial crisis, this was not so.
Today I started checking debt-to-equity ratios again. It seems most stocks I check now have a number for debt/equity. The ratios are mostly on the high side (like in the hundreds).
What is the explanation for the disappearance for a period (it seemed) of debt-to-equity ratios?
I wasn't looking at Yahoo, but my guess is some banks whose accounting wizardry literally took the whole world as well as the banks themselves by surprise. generated a divide by zero error that messed up the software. Debt to equity in the hundreds sounds like they've been working on the software but still don't have it right. Debt as a percent of capitalization numbers I've seen recently are below 50%.
My strongest point in life is not accounting, so may I ask, where is debt/equity also known as total liabilities to shareholder equity? My notion is (was) that debt means long-term debt such as bonds, but might include revolving credit facilities if those are used or likely to be used. Total liabilities includes accounts payable, for example, in the current liabilities, and a quick ratio of current items is used to measure near-term liquidity.
I do not have accounting experience either but on your prompt, I just looked up "shareholder equity." From wikipedia: "In accounting and finance, equity is the residual claim or interest of the most junior class of investors in assets, after all liabilities are paid."
My guess is that for some reason assets reduced in value to such an extent that they would not cover liabilities. So equity was zero, and companies' computers spewed back not-a-number. But I swear this occurred for every company (of many many companies) I looked at for a period of many months.
If the above is so, I guess I need to ask next how the value of assets is set.
That was my guess, I just worded it differently. I didn't write the program, but I've seen the phenomenon before, where a single error propagates errors through all similar computations. If you set up a spreadsheet for a budget and expect to always have a positive number for taxes paid, then you don't check that sign with an @IF function in the cell. Then you get a tax credit, and enter a negative number for tax paid, and if your spreadhseet has linked cells, the error propagates through the entire spreadsheet because one cell had an error. Some programmers like to use the "stack." Think of a stack of dishes: the last plate pushed onto the top is the first one pulled off. It's easier to program than the more rigorous way of setting up a separate data storage, but "stack overflow" is a rather common crash error. The data pushed onto the stack isn't checked for errors (like equity < 0) and it *could* corrupt the entire stack (data size is greater than was allowed for), which would affect all stack storage and retrieval, and the program can go nuts. Regardless, you get the idea that one error can affect the entire database. Databases are not as strong with numbers in their "fields" as spreadsheets are with numbers in their "cells," and the pressures to use high level languages to get a program as quickly as possible puts a lot of faith in the compilers (programs that translate a high-level language into machine language) which also like to use the stack data segment. Lotus used to be famous for writing their code in assembly language, in which anything and everything can be checked and double checked.
I'll look for my accounting text. I disagree with the first "quick and ready" Wiki definition, since the equity section of a balance sheet includes treasury stock and retained earnings, Any "Intro to Accounting" text will cover financial statements with sufficient rigor to pierce an honest financial statement, and my bet is there are literally tons of used ones for sale *cheap* by students who never want to see them again but are too carbon-conscious to do what they really would like to do to them, and so settle for the lesser vengeance.
I retract my too-quick statement above. Wiki states clearly that it is debt/ equity, specifying marketable securities, and that doesn't include current liabilities.
You must be an accountant. I admire accountants' terseness and simplicity.
But isn't debt to equity useful only if it excludes current liabilities such as accounts payable which are normally offset by current assets such as accounts receivable? In shareholders equity, retained earnings can be drawn down first, followed by the sale of treasury stock (but never by cancelling the CEO's stock options or golden parachute).
No, but I am married to one.:) I also remember a little from my MBA.
The debt/equity ratio normally includes all debt regardless of when it is due. I am afraid you have lead a sheltered life when it comes to financial statements. Current liabilities may be offset by current assets in most healthy businesses but that is not always the case in every business. I did some work for one company that I remember in particular whose owner was so focused on sales and growth that he ignored customer quality and, as a result, had a lot of deadbeats. If you factored in allowance for bad debts and collection costs his current assets were frequently less than current liabilities. To make matters worse, to provide working capital to support the growth, he had to factor his receivables which increased costs still more.
You shouldn't look for a sinister reason. They may just have changed their data model, incorporating more raw data, and didn't receive the necessary numbers from the SEC database until a later point in time. You can find the raw data under FINANCIALS -> balance sheet and calculate historic D/E ratios (using GE for an example):
curr. 2009 2008 2007
4.30 5.67 7.62 5.88
Equity in corporate finance is used differently from real estate. The D/E ratio describes the proportion of outside (put up by the financial market) to owner's (or shareholder's) capital. Yahoo displays it as percentages, thus the numbers in the hundreds.
Per Andreas hints I agree that one can do one's own computations of debt/equity, using the yahoo site and assuming yahoo has the raw numbers right, as follows:
Go to site finance.yahoo.com Type in the stock symbol On the left click on "Balance Sheet" Divide total liabilities by total stockholder equity
The explanation for why, under finance.yahoo, the "key statistics" listed debt/equity numbers were not shown for many months still remains to be determined. I will take it as a yahoo software glitch for now.
Understanding a business is indeed interesting; getting a handle on it, then following it. Supporting your point, a good thing to remember is that financial statements are for use (and studied interpretation), E.g. Multi-year leases might be long-term receivables; I haven't looked into the accounting guidelines on that, but both links Elle provided uphold the standard that debt/ equity is usually long-term debt.
One relies on the accounting profession. Various organizations such as AICPA, FINRA, and perhaps especially FASB (which has a fascinating formal forum on-line) are sources for more in-depth understanding of accounting guidelines and how those become "standards" to the Financial Accounting Standards Board. I was surprised by the seniority of the SEC.
Misuse and abuse of reporting has infected the investment world wholesale in the entire process. In keeping with what you said, as more comes to light on Wachovia it's apparent that the end of what was at one time a reputable bank before it fell under that entire pitifully inept mismanagement, came through others' knowledge and refusal to extend credit.
Are your sure about this. In his book "Intelligent Investor", he has the following advice in his chapter on stock selection for the Defensive Investor
----------------------------------------------------- For industrial companies current assets should be at least twice current liabilities-a so-called two-to-one current ratio. Also, longterm debt should not exceed the net current assets (or "working capital"). For public utilities the debt should not exceed twice the stock equity (at book value).
He is advising checking the debt/equity ratio only for public utilities, not for other companies. Even for public equities, he recommends a maximum of 2.
. Here it states the following guideline, among others, for valuestock picking, referencing Graham and Dodd as first laying theframework:
There should be no more debt than equity (i.e. D/E ratio < 1).
On further research, I see reference made to Graham's 1976 interview published in "Medical Economics." The article is titled, "The Simplest Way to Select Bargain Stocks." Site
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in this interview Graham stated debt/equity should be less than1.
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