Is P.A.M. Transportation Services (NASDAQ:PTSI) Using Too Much Debt?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. Importantly, P.A.M. Transportation Services, Inc. (NASDAQ:PTSI) does carry debt. But is this debt a concern to shareholders?

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. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for P.A.M. Transportation Services

How Much Debt Does P.A.M. Transportation Services Carry?

As you can see below, at the end of March 2021, P.A.M. Transportation Services had US$280.4m of debt, up from US$259.4m a year ago. Click the image for more detail. On the flip side, it has US$32.2m in cash leading to net debt of about US$248.2m.

How Healthy Is P.A.M. Transportation Services' Balance Sheet?

According to the last reported balance sheet, P.A.M. Transportation Services had liabilities of US$126.9m due within 12 months, and liabilities of US$284.6m due beyond 12 months. On the other hand, it had cash of US$32.2m and US$90.8m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$288.5m.

This is a mountain of leverage relative to its market capitalization of US$324.1m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

P.A.M. Transportation Services has a debt to EBITDA ratio of 2.6 and its EBIT covered its interest expense 5.1 times. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Notably, P.A.M. Transportation Services's EBIT launched higher than Elon Musk, gaining a whopping 187% on last year. The balance sheet is clearly the area to focus on when you are analysing debt. But it is P.A.M. Transportation Services's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. Over the most recent three years, P.A.M. Transportation Services recorded free cash flow worth 54% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

When it comes to the balance sheet, the standout positive for P.A.M. Transportation Services was the fact that it seems able to grow its EBIT confidently. However, our other observations weren't so heartening. For instance it seems like it has to struggle a bit to handle its total liabilities. Looking at all this data makes us feel a little cautious about P.A.M. Transportation Services's debt levels. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 3 warning signs for P.A.M. Transportation Services (1 is a bit unpleasant) you should be aware of.

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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