Is Five Point Holdings (NYSE:FPH) A Risky Investment?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Five Point Holdings, LLC (NYSE:FPH) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Five Point Holdings

How Much Debt Does Five Point Holdings Carry?

As you can see below, Five Point Holdings had US$680.5m of debt, at September 2023, which is about the same as the year before. You can click the chart for greater detail. However, it does have US$218.3m in cash offsetting this, leading to net debt of about US$462.2m.

How Healthy Is Five Point Holdings' Balance Sheet?

According to the last reported balance sheet, Five Point Holdings had liabilities of US$46.3m due within 12 months, and liabilities of US$941.9m due beyond 12 months. On the other hand, it had cash of US$218.3m and US$75.6m worth of receivables due within a year. So its liabilities total US$694.3m more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the US$336.8m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, Five Point Holdings would probably need a major re-capitalization if its creditors were to demand repayment. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Five Point Holdings will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Five Point Holdings made a loss at the EBIT level, and saw its revenue drop to US$110m, which is a fall of 47%. To be frank that doesn't bode well.

Caveat Emptor

While Five Point Holdings's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost US$8.7m at the EBIT level. Considering that alongside the liabilities mentioned above make us nervous about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. On the bright side, we note that trailing twelve month EBIT is worse than the free cash flow of US$52m and the profit of US$37m. So there is definitely a chance that it can improve things in the next few years. When I consider a company to be a bit risky, I think it is responsible to check out whether insiders have been reporting any share sales. Luckily, you can click here ito see our graphic depicting Five Point Holdings insider transactions.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.