Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that ‘Volatility is far from synonymous with risk.’ So it seems the smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess how risky a company is. We can see that Fortress Transportation and Infrastructure Investors LLC (NYSE:FTAI) does use debt in its business. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Generally speaking, debt only becomes a real problem when a company can’t easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of ‘creative destruction’ where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Fortress Transportation and Infrastructure Investors’s Debt?
The image below, which you can click on for greater detail, shows that at June 2021 Fortress Transportation and Infrastructure Investors had debt of US$2.13b, up from US$1.60b in one year. On the flip side, it has US$105.2m in cash leading to net debt of about US$2.02b.
How Strong Is Fortress Transportation and Infrastructure Investors’ Balance Sheet?
According to the last reported balance sheet, Fortress Transportation and Infrastructure Investors had liabilities of US$431.1m due within 12 months, and liabilities of US$2.08b due beyond 12 months. On the other hand, it had cash of US$105.2m and US$241.7m worth of receivables due within a year. So it has liabilities totalling US$2.17b more than its cash and near-term receivables, combined.
This deficit is considerable relative to its market capitalization of US$2.32b, so it does suggest shareholders should keep an eye on Fortress Transportation and Infrastructure Investors’ use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.
Weak interest cover of 0.091 times and a disturbingly high net debt to EBITDA ratio of 10.4 hit our confidence in Fortress Transportation and Infrastructure Investors like a one-two punch to the gut. This means we’d consider it to have a heavy debt load. Worse, Fortress Transportation and Infrastructure Investors’s EBIT was down 87% over the last year. If earnings continue to follow that trajectory, paying off that debt load will be harder than convincing us to run a marathon in the rain. There’s no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Fortress Transportation and Infrastructure Investors’s ability to maintain a healthy balance sheet going forward. So if you’re focused on the future you can check out this free report showing analyst profit forecasts.
Finally, a business needs free cash flow to pay off debt; accounting profits just don’t cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Fortress Transportation and Infrastructure Investors saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.
To be frank both Fortress Transportation and Infrastructure Investors’s conversion of EBIT to free cash flow and its track record of (not) growing its EBIT make us rather uncomfortable with its debt levels. And even its net debt to EBITDA fails to inspire much confidence. After considering the datapoints discussed, we think Fortress Transportation and Infrastructure Investors has too much debt. While some investors love that sort of risky play, it’s certainly not our cup of tea. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Fortress Transportation and Infrastructure Investors has 3 warning signs (and 1 which can’t be ignored) we think you should know about.
When all is said and done, sometimes its easier to focus on companies that don’t even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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