You Might Like Fletcher Building Limited (NZSE:FBU) But Do You Like Its Debt?

While small-cap stocks, such as Fletcher Building Limited (NZSE:FBU) with its market cap of NZ$4.7b, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. Assessing first and foremost the financial health is vital, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. We'll look at some basic checks that can form a snapshot the company’s financial strength. Nevertheless, this is not a comprehensive overview, so I’d encourage you to dig deeper yourself into FBU here.

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FBU’s Debt (And Cash Flows)

FBU's debt levels have fallen from NZ$2.3b to NZ$1.8b over the last 12 months , which includes long-term debt. With this debt repayment, FBU's cash and short-term investments stands at NZ$284m , ready to be used for running the business. Moreover, FBU has produced NZ$172m in operating cash flow in the last twelve months, leading to an operating cash to total debt ratio of 9.6%, meaning that FBU’s debt is not covered by operating cash.

Can FBU meet its short-term obligations with the cash in hand?

With current liabilities at NZ$2.4b, the company has been able to meet these commitments with a current assets level of NZ$3.7b, leading to a 1.59x current account ratio. The current ratio is calculated by dividing current assets by current liabilities. For Basic Materials companies, this ratio is within a sensible range since there is a bit of a cash buffer without leaving too much capital in a low-return environment.

Can FBU service its debt comfortably?

With debt reaching 43% of equity, FBU may be thought of as relatively highly levered. This is somewhat unusual for small-caps companies, since lenders are often hesitant to provide attractive interest rates to less-established businesses. No matter how high the company’s debt, if it can easily cover the interest payments, it’s considered to be efficient with its use of excess leverage. A company generating earnings before interest and tax (EBIT) at least three times its net interest payments is considered financially sound. In FBU's case, the ratio of 5.71x suggests that interest is appropriately covered, which means that debtors may be willing to loan the company more money, giving FBU ample headroom to grow its debt facilities.

Next Steps:

FBU’s high cash coverage means that, although its debt levels are high, the company is able to utilise its borrowings efficiently in order to generate cash flow. Since there is also no concerns around FBU's liquidity needs, this may be its optimal capital structure for the time being. This is only a rough assessment of financial health, and I'm sure FBU has company-specific issues impacting its capital structure decisions. I recommend you continue to research Fletcher Building to get a more holistic view of the small-cap by looking at:

1. Future Outlook: What are well-informed industry analysts predicting for FBU’s future growth? Take a look at our free research report of analyst consensus for FBU’s outlook.
2. Valuation: What is FBU 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 FBU 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.