DESPITE

its perilous connotations, debt can be an important part of doing business. When a company borrows money to make investments that create new opportunities, it's often a powerful growth elixir. Trouble comes when companies take on too much debt or spend the money foolishly. The job of management is to find the proper balance.

How much debt is too much? That depends a lot on the company's earning power, as well as the terms of its obligations just like home mortgages, some loans are much more expensive than others. If a company is carrying too much debt, it usually shows up in poor earnings. But even a healthy company can run into trouble for a period of time if business falters or if interest rates spike, boosting the cost of paying the interest on its debt. Your hope as an investor is to pick healthy companies with enough room for error. That's where the debt/total-capital ratio comes in.

Debt/total capital measures how much of a company's total "capitalization" is made up of debt. Total capital is a tally of all the outside investments management has used to finance the business everything from equity (the amount of stock sold) to long-term debt. Our view is that companies are best off keeping debt below 50% of capital unless there's a specific reason to carry more a strategic acquisition, for instance, or a temporary buildup to enter a new business. If you like a company but its debt seems high, the best thing to do is some reading and research to see if any special circumstances exist. Otherwise, you might want to look elsewhere.

APPLET PLACEHOLDER: archive=PlasticComparison.jar height=350 width=255