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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Five Point Holdings, LLC (NYSE:FPH) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. 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. 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

What Is Five Point Holdings's Debt?

As you can see below, Five Point Holdings had US$594.0m of debt at March 2021, down from US$718.3m a year prior. On the flip side, it has US$229.7m in cash leading to net debt of about US$364.3m.

How Healthy Is Five Point Holdings' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Five Point Holdings had liabilities of US$144.2m due within 12 months and liabilities of US$905.0m due beyond that. Offsetting this, it had US$229.7m in cash and US$78.1m in receivables that were due within 12 months. So its liabilities total US$741.5m more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of US$1.06b. 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.

In the last year Five Point Holdings had a loss before interest and tax, and actually shrunk its revenue by 13%, to US$158m. That's not what we would hope to see.

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$36m 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$43m in negative free cash flow over the last twelve months. So to be blunt we think it is risky. For riskier companies like Five Point Holdings I always like to keep an eye on the long term profit and revenue trends. Fortunately, you can click to see our interactive graph of its profit, revenue, and operating cashflow.

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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