Five Stress Test Rules for Downturns

To protect the firm and its long-term shareholders during periods of weakness, there are five stress test rules every management team and board should follow. Breaking any of these rules in a downturn is a surefire way to destroy shareholder value.

These are, in order of importance:

1. Don’t go bankrupt.

2. Don’t issue equity from a point of weakness.

3. Don’t cut the dividend.

4. If you are an investment-grade firm, remain investment grade throughout the downturn.

5. Don’t lose financial flexibility (i.e., maintain the ability to deploy capital opportunistically).

Taking into account the unique characteristics of each firm, a management team and board should employ as much leverage as possible ...

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