Is Cogeco Communications (TSE:CCA) a High-Quality Buy with a 10.56% ROE in a Debt-Heavy Play?

Investors seeking high returns often gravitate toward companies with robust Return on Equity (ROE), but the sustainability of such returns hinges on whether they stem from operational efficiency or are artificially inflated by leverage. Cogeco Communications (TSE:CCA), a Canadian telecom giant, presents a case study in this debate. With a ROE of 10.56% as of August 2025, Cogeco's performance appears modest compared to its 2021 peak of 16.62% and lags behind industry peers like Quebecor Inc. (35.32% ROE). Yet, its debt-heavy capital structure raises critical questions about the durability of its returns in today's high-interest-rate environment.

The Leverage-Driven ROE: A Double-Edged Sword

Cogeco's ROE is amplified by a DuPont analysis that reveals a high equity multiplier of 3.176, driven by a debt-to-equity ratio of 1.53 (TTM). This means the company relies heavily on debt to finance its operations, a strategy that boosts ROE by reducing equity base. However, this leverage comes at a cost. The company's interest coverage ratio has declined from 5.48 in 2021 to 2.76 in Q2 2025, signaling growing vulnerability to rising borrowing costs. While the 2.76 ratio still offers a buffer, it is far from the safety margins seen in healthier telecom firms.

The company's asset turnover ratio of 0.292 further underscores its inefficiency in generating revenue from assets, a common challenge in capital-intensive industries. This low turnover means Cogeco must rely even more on leverage to maintain its ROE, creating a precarious balance between growth and risk.

Industry Positioning: A Mixed Bag

Cogeco's leverage is higher than the U.S. telecommunications industry average of 1.27 (Q2 2025), placing it in the top 10% of debt-heavy players. While the industry's ROE of 15.5% (Q2 2025) suggests strong sector-wide performance, Cogeco's 10.56% ROE trails behind, indicating it is not capitalizing on its scale as effectively as peers. For context, Quebecor's 35.32% ROE reflects superior operational efficiency and a more conservative debt profile (D/E ratio of 0.85).

The company's debt-to-market cap ratio of 1.79 (as of Q2 2025) is another red flag. This metric implies that Cogeco's total debt exceeds its market value, a situation that could exacerbate volatility during economic downturns or interest rate hikes. In contrast, the industry median debt-to-market cap ratio is 1.25, highlighting Cogeco's outlier status.

Risk vs. Reward in a High-Interest-Environment

The current macroeconomic climate amplifies the risks of Cogeco's leverage. With central banks maintaining elevated interest rates to combat inflation, borrowing costs for high-debt firms are rising. Cogeco's interest coverage ratio of 2.76, while still acceptable, leaves little room for error. A further decline in EBIT or a spike in interest rates could erode its ability to service debt, potentially triggering downgrades or liquidity crises.

Moreover, the company's ROE trajectory from 2021 to 2025 reveals a troubling trend. After peaking at 16.62% in 2021, its ROE has fallen to 10.56%, a 36% drop. This decline coincides with a steady reduction in interest coverage and a rise in leverage, suggesting that operational challenges are compounding the risks of its debt-driven strategy.

Strategic Initiatives: Can They Turn the Tide?

Cogeco's management has emphasized growth through fiber network expansions and the Breezeline Mobile acquisition. While these initiatives could enhance long-term profitability, their success hinges on execution and capital discipline. The company's current leverage limits its flexibility to reinvest in innovation or weather unexpected headwinds. For instance, its debt-to-capital ratio of 0.60 (Q2 2025) indicates that 60% of its capital structure is debt, leaving less room for equity financing or strategic acquisitions.

Investment Implications

For investors, Cogeco's ROE of 10.56% is neither exceptional nor alarming. However, the reliance on leverage to sustain this return raises concerns about its durability. In a high-interest-rate environment, the company's debt burden could become a drag on earnings and shareholder value. While its telecom infrastructure plays are positioned to benefit from long-term trends like 5G and fiber demand, the near-term risks of overleveraging cannot be ignored.

Recommendation: Cogeco Communications is a speculative buy for investors with a high risk tolerance and a long-term horizon. However, conservative investors should prioritize companies with stronger balance sheets and higher operational efficiency, such as Quebecor or industry leaders with ROEs above 15%. For Cogeco, the key will be monitoring its ability to reduce leverage while maintaining growth—two objectives that often conflict in capital-intensive sectors.

In conclusion, Cogeco's ROE is a product of both operational performance and aggressive leverage. While the company's debt-heavy strategy has historically boosted returns, the current macroeconomic climate demands a cautious approach. Investors must weigh the potential for growth against the risks of overleveraging, ensuring their portfolios are diversified to mitigate sector-specific vulnerabilities.