Are Aggreko Plc's (LON:AGK) Interest Costs Too High?

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Mid-caps stocks, like Aggreko Plc (LON:AGK) with a market capitalization of UK£2.0b, aren’t the focus of most investors who prefer to direct their investments towards either large-cap or small-cap stocks. Surprisingly though, when accounted for risk, mid-caps have delivered better returns compared to the two other categories of stocks. Today we will look at AGK’s financial liquidity and debt levels, which are strong indicators for whether the company can weather economic downturns or fund strategic acquisitions for future growth. Don’t forget that this is a general and concentrated examination of Aggreko’s financial health, so you should conduct further analysis into AGK here.

Check out our latest analysis for Aggreko

AGK’s Debt (And Cash Flows)

AGK has built up its total debt levels in the last twelve months, from UK£725m to UK£771m , which accounts for long term debt. With this increase in debt, AGK's cash and short-term investments stands at UK£100m , ready to be used for running the business. Additionally, AGK has generated UK£330m in operating cash flow over the same time period, resulting in an operating cash to total debt ratio of 43%, indicating that AGK’s current level of operating cash is high enough to cover debt.

Can AGK pay its short-term liabilities?

At the current liabilities level of UK£571m, it seems that the business has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 1.99x. The current ratio is the number you get when you divide current assets by current liabilities. Generally, for Commercial Services companies, this is a reasonable ratio as there's enough of a cash buffer without holding too much capital in low return investments.

Is AGK’s debt level acceptable?

AGK is a relatively highly levered company with a debt-to-equity of 56%. This is not unusual for mid-caps as debt tends to be a cheaper and faster source of funding for some businesses. We can test if AGK’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For AGK, the ratio of 5.88x suggests that interest is appropriately covered, which means that lenders may be less hesitant to lend out more funding as AGK’s high interest coverage is seen as responsible and safe practice.

Next Steps:

Although AGK’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet obligations which means its debt is being efficiently utilised. Since there is also no concerns around AGK's liquidity needs, this may be its optimal capital structure for the time being. Keep in mind I haven't considered other factors such as how AGK has been performing in the past. I suggest you continue to research Aggreko to get a better picture of the mid-cap by looking at:

1. Future Outlook: What are well-informed industry analysts predicting for AGK’s future growth? Take a look at our free research report of analyst consensus for AGK’s outlook.
2. Valuation: What is AGK worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether AGK is currently mispriced by the market.
3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.