Good morning. A reader asked me to look at Ten Alps (LON:TAL) some time ago, which is a TV and radio content producer. My conclusion was that its Balance Sheet was so weak, with high levels of debt, that its shares were probably worth nothing. This was particularly the case because it is also loss-making. Interim results to 30 Sep 2013 show an operating loss reduced by two thirds to £0.5m, so they seem to be making some progress. However the net debt of £6m is alarming, and the business is therefore completely dependent on the continued patience of their Bank. Debt ranks ahead of equity in insolvency, so any situation where there is a lot of debt, but no profits, is very high risk.
Many Stock Market participants are completely ignoring Balance Sheet risk at the moment, and often making spectacular gains, which is galling - to see bad decisions being rewarded, often handsomely. However, I'm sticking to my guns - because since I took a zero tolerance approach towards Balance Sheet risk, there have not been any serious losses in my portfolio. Typically the worst case scenario is a drop of 20-30% on a profits warning, which allows you to weigh up risk/reward, and exit if you no longer find it attractive, as I did recently with Volex (LON:VLX). Again, it's galling to see their shares rebound, despite risk/reward having got materially worse (bank debt shooting up, risk of breaching bank covenants in 2014 (Net debt to EBITDA is forecast to be over 3.5 according to Edison), dividend cancelled), but it's my job to stick to the fundamentals and make rational decisions, not to try to play market sentiment.
As we saw in 1998-2000, and again in the run up to the 2008 crash, a lot of investors get into some very bad habits in bull markets, which then unleash destruction on our portfolios when the good times abruptly come to an end. I'm very much talking from personal experience here, of having got a lot wrong myself in the past. This time I'd determined to enter the next bear market in good shape, although I'm not expecting a bear market immediately. A correction yes, but a bear market is probably a year or two ahead, dependent…
