Fortis Inc (TSE:FTS): Good Growth, Poor Health

There’s no stopping the Fortis Inc (TSX:FTS) growth train, with analysts forecasting high top-line growth in the near future. But the risk I see is around whether the company’s recent financial position is sustainable given the way it currently manages its capital. Moreover, it seems like the market is overly optimistic about the business, with its current share price of CA$43.49 hovering above its true value. I will touched on some key aspects you should know on a high level, around its financials and growth prospects going forward.

Fortis Inc. operates as an electric and gas utility company in Canada, the United States, and the Caribbean. Since starting in 1885 in Canada, the company has now grown to a market cap of CA$18.42B.

TSX:FTS Future Profit Mar 30th 18
TSX:FTS Future Profit Mar 30th 18

The company is growing incredibly fast, with a year-on-year revenue growth of 21.40% over the past financial year , and a net income growth of 64.62%. Since 2013, revenue has risen 14.22%, concurrent with larger capital expenditure, which most recently reached CA$2.81B.

TSX:FTS Historical Debt Mar 30th 18
TSX:FTS Historical Debt Mar 30th 18

Limiting your downside risk is an important part of investing, and financial health is a key determinant on whether FTS is a risky investment or not. Two major red flags for FTS are its debt level exceeds equity on its balance sheet, and its cash from its core activities is only enough to cover a mere 12.45% of this large debt amount. Furthermore, its debt-to-equity ratio has also been increasing from 120.46% five years ago, and its EBIT was not able to sufficiently cover its interest payment, with a cover of 2.64x. This does lower my conviction around the sustainability of the business going forward. FTS has poor liquidity management. Firstly, its cash and other liquid assets are not sufficient to meet its upcoming liabilities within the year, let alone its longer term liabilities. Secondly, more than a fifth of its total assets are physical and illiquid, such as inventory. Keeping in mind the downside risk, if we think about the worst case scenario, such as a downturn or bankruptcy, a non-trivial portion of its assets will be hard to liquidate and redistribute back to investors.

The current share price for FTS is CA$43.49. At 423.05 million shares, that’s a CA$18.42B market cap – which is too high, even for a company that has a 5-year cumulative average growth rate (CAGR) of 17.03% (source: analyst consensus). With an upcoming 2018 free cash flow figure of CA$1.06B, the target price for FTS is CA$32.91. Therefore, the stock is trading at a 32.14% premium. Also, comparing FTS’s current share price to its peers based on its industry and earnings level, it’s overvalued by 38.85%, with a PE ratio of 18.76x vs. the industry average of 13.51x.

If you’re thinking about buying FTS, you have to believe in its growth story, which is a strong one. However, my main reservation with the company is its financial health, as well as the possibility that it is currently overvalued. For all the charts illustrating this analysis, take a look at the Simply Wall St platform, which is where I’ve taken my data from.