New-found fear of debt rattles shares

Fashion can be very fickle. Twelve months ago companies were under pressure from investors to take on debt and gear up their balance sheets. Fast-forward to 2008 and investors are fleeing stocks with high debt levels.

The worry is that these companies will struggle to refinance debt or that the economic slowdown will dent their ability to meet interest payments and keep banking covenants.

Nowhere has this flight from leverage been more in evidence than in the case of Yell. Shares in the Yellow Pages publisher have fallen 51 per cent since the start of the year, making them the worst performer in the FTSE 100.

Aside from concerns about the outlook for the advertising market, the main reason for the poor share price performance is worries regarding Yell's balance sheet.

Yell is highly leveraged. Net debt was five times earnings before interest, tax, depreciation and amortisation at the end of December. Put another way, 70 per cent of its enterprise value is debt.

Analysts fear a further downturn in the advertising market could see Yell breach covenants (although they can only guess what the covenants are because the company has never disclosed them).

Of course, Yell is not the only company affected by the new-found fear of debt. Shares in Premier Foods have halved this year amid concerns that the maker of Branston Pickle and Hovis bread would need a rights issue.

Premier moved to address those fears this week and provided full details of its banking covenants, which have been renegotiated, and increased available credit by £225m.

Investors soon found another company to worry about. Shares in Johnston Press, the regional newspapers group, fell more than 15 per cent on Thursday and Friday on fears it could breach banking covenants. Broker UBS said that was possible if revenues fell a further 5 per cent this year.

So which other companies' share prices could weaken (or weaken further) on debt concerns?

In a research report, Morgan Stanley said the deterioration in money and credit markets would weigh on companies that need short-term funding and have low fixed-charge cover.

Fixed-charge cover is earnings before interest and tax divided by net interest payments, rent and operating leases. Companies with low cover should in theory have less cash available to invest in growth and pay dividends.

Companies with low fixed-charge cover include Ashtead, Avis Europe and the retailers DSG International, Debenhams and HMV. In terms of funding, Morgan Stanley identified HMV and Avis as stocks in which short-term funding costs equated to 5 per cent or more of total assets. Other companies that screened poorly on this measure were Rentokil Initial, Helphire Group, Dairy Crest and, surprisingly, BTGroup

More broadly, companies that have a high multiple of net debt to equity include Debenhams, Rank, Next, Enterprise Inns and Mitchells & Butlers.

Investors in these companies will hope debt comes back into fashion soon. But, as with flares and kipper ties, they could wait some time. * Yell's recent performance is all but certain to cost the company its FTSE 100 place when the results of the quarterly review are released on Wednesday. Other companies for the chop are Rentokil and Taylor Wimpey, the housebuilder.

One of those three places will be taken by Eurasian Natural Resources Corporation. Although it is valued at £14bn, the Kazakh mining company is something of a mystery to many brokers and investors. That will change pretty quickly. ENRC is one of the world's largest producers of ferrochrome but has a small number of shares that can be traded. This seems likely to make it one of the most volatile stocks in the FTSE 100, unless, of course, one of its pre-float backers decides to cash in. ENRC has risen 95 per cent since listing in December.


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