4 High Debt Stocks to Avoid

Includes: AFFX, AOI, GNW, PTRY
by: Investment Underground

Debt has been a hot topic in the news in recent weeks. Whether it’s the possibility of a U.S. default, or austerity measures taken in Europe to avoid financial meltdown, debt levels are front and center on the investors psyche. With that in mind, today we look at five high debt stocks to avoid.

Genworth Financial Inc. (NYSE:GNW): A financial security company, GNW provides insurance and investment products both stateside and abroad. Shares traded up 0.96% to $8.40 at the time of writing, well off their 52 week high of $14.77 in July, 2011. In addition, GNW trades at a P/E ratio of 83.2. GNW’s debt has grown from $3.9 billion in 2006 to $8.9 billion in 2010.

In the second quarter, GNW’s total revenue grew 10% to $2.67 billion from $2.41 billion a year earlier. However, the operating loss for the latest quarter stood at $74 million, compared with an operating profit of $118 million in the year-ago period. A significantly higher loss at the company’s mortgage insurance segment, partially offset by improved results at the retirement and international segments, resulted in the softened performance.

We would avoid GNW primarily due to the fact the mortgage insurance business has significant exposure to the volatile and unpredictable U.S. housing market. A significant number of mortgages are "underwater," and foreclosure figures have abated only due to legal liability. We also think GNW has a weaker capital position than peers, notably MetLife Inc. (NYSE:MET), and appears to be vulnerable to investment instrument losses.

Affymetrix Inc. (NASDAQ:AFFX): AFFX is a developer and manufacturer of consumable systems for genetic analysis in the clinical healthcare market. Shares are around $5.65 at the time of writing, and also down from the year-to-date high of $8.06 on July 1. AFFX trades at a sky-high price earnings ratio of 332.4, but we do see earnings growth ahead. AFFX’s debt stood at $95.5 million in 2010.

Along with Illumina Inc. (ILNM), AFFX is a providers of microarray technologies used in gene therapy and research through its Axiom, myDesign and QuantiGene assays and biology kits. Second quarter revenue at the company were down 9.8%, year over year, to $64.7 million, however lower costs more than offset the decline in sales. This narrowed the net year over year loss by $3.7 million.

However, Affymetrix is operating in a highly competitive industry, and faces risks associated with lower research and development spending by its customers, especially in Europe, due to a weak economy budget cuts to universities and labs. Big pharma budget growth for research is also down at Johnson & Johnson (NYSE:JNJ), Merck (NYSE:MRK) and Pfizer (NYSE:PFE). I believe that there are several larger and better-capitalized companies competing in this industry, including Agilent (NYSE:A), Corning (NYSE:GLW) and Illumina (ILNM). I would avoid the shares.

Pantry Inc. (NASDAQ:PTRY): PTRY operates a convenience store and gasoline chain in the southeastern U.S. Its stores offer a selection of typical gas station merchandise and fuels. Shares were up 0.62%, to $17.82 at the time of writing, bouncing back from a 2011 low of $13.31 in March. PTRY trades at a price earnings ratio of 28.6. PTRY’s debt stood at $1.21 billion according to its latest filings.

Over the past year PTRY has disappointed investors by producing weak relative performance. While the U.S. and global economies have shown signs of recovery, unemployment, underemployment amid declining home prices remain above normal in the markets where a significant majority of the company’s stores are located. PTRY’s business is highly congruent with the economic well-being of the construction and trucking businesses, and new housing permits in the company’s markets have continued to decline.

While many companies in the sector are also struggling to perform, I believe PTRY should be avoided. In my opinion, a better choice for growth may be Winn-Dixie Stores, Inc. (NASDAQ:WINN) or Travel Centers of America (NYSEMKT:TA).

Alliance One International, Inc. (NYSE:AOI): Founded in 1904, AOI processes and sells leaf tobacco to cigarette manufacturers like Altria (NYSE:MO), Philip Morris International (NYSE:PM), Reynolds (NYSE:RAI), Lorillard (NYSE:LO), British American (NYSEMKT:BTI) and Imperial ITYBY.PK). Shares were down 1.20% to $3.29 at the time of writing, down from its 52 week high of 4.83 November 4, 2010.

In its fiscal year ended March 31, 2011, AOI increased debt, net of cash, by $224.5 million between $848.6 million in 2010, to $1.07 billion as of March 31, 2011. The large rise was a result of increasing oversupply in its products and potential changes in customers' buying patterns. We think the market should be able to correct itself in due time.

Additionally, I believe that the operating environment will remain dynamic, with uncertainties in demand driven mostly by:

  1. increases in taxes
  2. different buying patterns, adjusted seasonally and geographically, and
  3. economic conditions in major markets, including Asia and the Middle East. In addition, AOI expects modest price decreases and lower end-user sales prices for fiscal 2012. This could result in net margin compression next year.

Finally, due to changes in buying patterns and a changing customer mix, the company expects a slower start to the year. Crop plantings have been lackluster in key African countries like Malawi and elsewhere. I would avoid AOI and stick with a more proven player in the tobacco arena such as Altria (MO) or Philip Morris International (PM).

Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.