Does AMG Advanced Metallurgical Group (AMS:AMG) Have A Healthy Balance Sheet?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. We can see that AMG Advanced Metallurgical Group N.V. (AMS:AMG) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for AMG Advanced Metallurgical Group

What Is AMG Advanced Metallurgical Group's Debt?

As you can see below, AMG Advanced Metallurgical Group had US$703.3m of debt, at March 2021, which is about the same as the year before. You can click the chart for greater detail. However, it also had US$211.1m in cash, and so its net debt is US$492.3m.

How Strong Is AMG Advanced Metallurgical Group's Balance Sheet?

The latest balance sheet data shows that AMG Advanced Metallurgical Group had liabilities of US$383.3m due within a year, and liabilities of US$961.7m falling due after that. On the other hand, it had cash of US$211.1m and US$153.3m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$980.5m.

This deficit is considerable relative to its market capitalization of US$983.4m, so it does suggest shareholders should keep an eye on AMG Advanced Metallurgical Group's 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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Weak interest cover of 0.26 times and a disturbingly high net debt to EBITDA ratio of 9.8 hit our confidence in AMG Advanced Metallurgical Group like a one-two punch to the gut. The debt burden here is substantial. One redeeming factor for AMG Advanced Metallurgical Group is that it turned last year's EBIT loss into a gain of US$6.0m, over the last twelve months. 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 AMG Advanced Metallurgical Group 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Over the last year, AMG Advanced Metallurgical Group 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.

Our View

To be frank both AMG Advanced Metallurgical Group's interest cover and its track record of converting EBIT to free cash flow make us rather uncomfortable with its debt levels. But at least its EBIT growth rate is not so bad. Taking into account all the aforementioned factors, it looks like AMG Advanced Metallurgical Group has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. 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. Be aware that AMG Advanced Metallurgical Group is showing 3 warning signs in our investment analysis , and 1 of those makes us a bit uncomfortable...

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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