Chapter 9: Specific Standards for Bond Investment
- The Terms of the
Issue: Graham notes that standards of safety should not be relaxed
because of early maturity (short term bonds).
- The record of
Solvency and Dividend Payments: Notes that dividend record is not
conclusive evidence of financial strength. The evidence given by
balance sheet and income account must be regarded as more dependable
than dividend payments.
- The relation of
Earnings to Interest Payments: This is the most important specific test
of safety. There are three specific items of note
- Method of computing the earnings coverage: Suggests using the
total fixed charges in computing the charges.
- Amount of coverage required: Suggests three times for industrial
stocks.
- The period required for the test: Suggests a seven year period
and to use the average earnings for the period to be used. This period
can exclude any clearly abnormal years. Use for example zero for
deficit years, instead of including a negative number. The minimum must
also be met in the year immediately preceding the date of investment.
Attention
should also be paid to trend, minimum and current earnings but no
definite hard
and fast rules can be applied.