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.’ When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Astronics Corporation (NASDAQ:ATRO) does have debt on its balance sheet. But is this debt a concern to shareholders?
When Is Debt A Problem?
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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.
What Is Astronics’s Net Debt?
The chart below, which you can click on for greater detail, shows that Astronics had US$173.0m in debt in July 2021; about the same as the year before. On the flip side, it has US$33.6m in cash leading to net debt of about US$139.4m.
How Healthy Is Astronics’ Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Astronics had liabilities of US$99.1m due within 12 months and liabilities of US$248.6m due beyond that. On the other hand, it had cash of US$33.6m and US$98.2m worth of receivables due within a year. So it has liabilities totalling US$215.9m more than its cash and near-term receivables, combined.
While this might seem like a lot, it is not so bad since Astronics has a market capitalization of US$404.0m, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. 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 Astronics can strengthen its balance sheet over time.
In the last year Astronics had a loss before interest and tax, and actually shrunk its revenue by 33%, to US$438m. To be frank that doesn’t bode well.
While Astronics’s falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at US$36m. 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. However, it doesn’t help that it burned through US$14m of cash over the last year.