Legendary fund manager Li Lu (who Charlie Munger backed) once said, ‘The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.’ When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies ArcelorMittal (AMS:MT) makes use of debt. But is this debt a concern to shareholders?
When Is Debt Dangerous?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of ‘creative destruction’ where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well – and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is ArcelorMittal’s Net 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, it also had US$5.63b in cash, and so its net debt is US$6.90b.
A Look At ArcelorMittal’s Liabilities
According to the last reported balance sheet, ArcelorMittal had liabilities of US$19.3b due within 12 months, and liabilities of US$24.4b due beyond 12 months. On the other hand, it had cash of US$5.63b and US$3.05b worth of receivables due within a year. So it has liabilities totalling US$35.0b more than its cash and near-term receivables, combined.
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. At the end of the day, ArcelorMittal would probably need a major re-capitalization if its creditors were to demand repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if ArcelorMittal can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
In the last year ArcelorMittal had a loss before interest and tax, and actually shrunk its revenue by 23%, to US$58b. To be frank that doesn’t bode well.
Not only did ArcelorMittal’s revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost US$649.0m at the EBIT level. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. 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. Consider for instance, the ever-present spectre of investment risk. We’ve identified 2 warning signs with ArcelorMittal , and understanding them should be part of your investment process.
If, after all that, you’re more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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