Five Point Holdings (NYSE:FPH) Is Making Moderate Use Of Debt

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.' 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 is this debt a concern to shareholders?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.

View our latest analysis for Five Point Holdings

How Much Debt Does Five Point Holdings Carry?

The chart below, which you can click on for greater detail, shows that Five Point Holdings had US$711.6m in debt in September 2020; about the same as the year before. However, it does have US$270.6m in cash offsetting this, leading to net debt of about US$441.0m.

How Healthy Is Five Point Holdings' Balance Sheet?

The latest balance sheet data shows that Five Point Holdings had liabilities of US$38.9m due within a year, and liabilities of US$1.02b falling due after that. On the other hand, it had cash of US$270.6m and US$75.2m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$713.2m.

This deficit is considerable relative to its market capitalization of US$922.5m, so it does suggest shareholders should keep an eye on Five Point Holdings' use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. 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 Five Point Holdings 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.

Over 12 months, Five Point Holdings reported revenue of US$189m, which is a gain of 302%, although it did not report any earnings before interest and tax. When it comes to revenue growth, that's like nailing the game winning 3-pointer!

Caveat Emptor

While we can certainly appreciate Five Point Holdings's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Indeed, it lost US$32m at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. Another cause for caution is that is bled US$99m in negative free cash flow over the last twelve months. So suffice it to say we consider the stock very risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 1 warning sign for Five Point Holdings that you should be aware of before investing here.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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