Stock Analysis

AngloGold Ashanti (JSE:ANG) Seems To Use Debt Quite Sensibly

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JSE:ANG
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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 AngloGold Ashanti Limited (JSE:ANG) makes use of debt. But the real question is whether this debt is making the company risky.

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. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for AngloGold Ashanti

How Much Debt Does AngloGold Ashanti Carry?

You can click the graphic below for the historical numbers, but it shows that AngloGold Ashanti had US$1.93b of debt in December 2020, down from US$3.48b, one year before. However, it does have US$1.33b in cash offsetting this, leading to net debt of about US$601.0m.

debt-equity-history-analysis
JSE:ANG Debt to Equity History June 22nd 2021

How Healthy Is AngloGold Ashanti's Balance Sheet?

We can see from the most recent balance sheet that AngloGold Ashanti had liabilities of US$959.0m falling due within a year, and liabilities of US$2.97b due beyond that. Offsetting this, it had US$1.33b in cash and US$173.0m in receivables that were due within 12 months. So its liabilities total US$2.43b more than the combination of its cash and short-term receivables.

AngloGold Ashanti has a market capitalization of US$7.92b, 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.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). 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).

AngloGold Ashanti's net debt is only 0.30 times its EBITDA. And its EBIT easily covers its interest expense, being 21.4 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Better yet, AngloGold Ashanti grew its EBIT by 110% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. 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 AngloGold Ashanti 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. Over the most recent three years, AngloGold Ashanti recorded free cash flow worth 56% 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

The good news is that AngloGold Ashanti's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. And that's just the beginning of the good news since its EBIT growth rate is also very heartening. Looking at the bigger picture, we think AngloGold Ashanti's use of debt seems quite reasonable and we're not concerned about it. After all, sensible leverage can boost returns on equity. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 3 warning signs for AngloGold Ashanti you should be aware of, and 1 of them is significant.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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