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 Fluor Corporation (NYSE:FLR) makes use of debt. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
How Much Debt Does Fluor Carry?
As you can see below, Fluor had US$1.74b of debt, at December 2020, which is about the same as the year before. You can click the chart for greater detail. However, it does have US$2.22b in cash offsetting this, leading to net cash of US$486.7m.
A Look At Fluor's Liabilities
According to the last reported balance sheet, Fluor had liabilities of US$3.57b due within 12 months, and liabilities of US$2.47b due beyond 12 months. On the other hand, it had cash of US$2.22b and US$2.15b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$1.68b.
Fluor has a market capitalization of US$2.81b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Fluor boasts net cash, so it's fair to say it does not have a heavy debt load!
Notably, Fluor made a loss at the EBIT level, last year, but improved that to positive EBIT of US$145m in the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Fluor can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Fluor has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. In the last year, Fluor's free cash flow amounted to 50% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.
While Fluor does have more liabilities than liquid assets, it also has net cash of US$486.7m. So while Fluor does not have a great balance sheet, it's certainly not too bad. Even though Fluor lost money on the bottom line, its positive EBIT suggests the business itself has potential. So you might want to check out how earnings have been trending over the last few years.
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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