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.’ It’s only natural to consider a company’s balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that ArcelorMittal (AMS:MT) does have debt on its balance sheet. 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. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company’s use of debt, we first look at cash and debt together.
What Is ArcelorMittal’s Debt?
The chart below, which you can click on for greater detail, shows that ArcelorMittal had US$12.5b in debt in June 2020; about the same as the year before. However, because it has a cash reserve of US$5.63b, its net debt is less, at about US$6.90b.
How Healthy Is ArcelorMittal’s Balance Sheet?
We can see from the most recent balance sheet that ArcelorMittal had liabilities of US$19.3b falling due within a year, and liabilities of US$24.4b due beyond that. Offsetting these obligations, it had cash of US$5.63b as well as receivables valued at US$3.05b due within 12 months. So its liabilities total US$35.0b more than the combination of its cash and short-term receivables.
The deficiency here weighs heavily on the US$13.8b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, ArcelorMittal would likely require a major re-capitalisation if it had to pay its creditors today. 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 ArcelorMittal’s ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Over 12 months, ArcelorMittal made a loss at the EBIT level, and saw its revenue drop to US$58b, which is a fall of 23%. To be frank that doesn’t bode well.
While ArcelorMittal’s falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at US$649.0m. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. Nevertheless, we would not bet on it given that it lost US$4.1b in just last twelve months, and it doesn’t have much by way of liquid assets. So while it’s not wise to assume the company will fail, we do think it’s risky. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet – far from it. For example, we’ve discovered 2 warning signs for ArcelorMittal that you should be aware of before investing here.
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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