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DISCLAIMER
LEGALLY REQUIRED DISCLAIMER – THIS COURSE CONTAINS THE PERSONAL IDEAS AND OPINIONS OF THE COURSE
PROVIDERS. THE INFORMATION CONTAINED IN THIS COURSE IS FOR EDUCATIONAL PURPOSES ONLY. THERE IS NO
RECOMMENDATION OR ADVICE ON MAKING ANY INVESTMENT DECISIONS, BUYING OR SELLING ANY TYPES OF STOCKS,
SECURITIES OR INVESTMENTS DISCUSSED IN THIS COURSE. THE COURSE PROVIDERS ARE NEITHER STOCK BROKERS NOR
REGISTERED INVESTMENT ADVISORS. WE DO NOT RECOMMEND MAKING ANY INVESTMENT DECISIONS PROPOSED IN
THIS COURSE. INDIVIDUALS SHOULD FIND REGISTERED INVESTMENT ADVISORS TO HELP THEM MAKE INVESTMENT
DECISIONS. ALTHOUGH THE COURSE PROVIDERS HAVE STRIVED FOR PROVIDING THE MOST ACCURATE INFORMATION,
THERE IS NO GUARANTEE OR WARRANTY CONCERNING THE RELIABILITY, ACCURACY AND COMPLETENESS OF THE
PROVIDED INFORMATION. INDIVIDUALS SHOULD BE CAUTIOUS ABOUT MAKING THEIR OWN INVESTMENT DECISIONS.
INDIVIDUALS ARE SOLELY RESPONSIBLE FOR THEIR INVESTMENT DECISIONS. THE COURSE PROVIDERS ARE NOT
RESPONSIBLE FOR ANY LIABILITIES AND LOSSES, WHICH MAY ARISE FROM THE USE AND APPLICATION OF THE
INFORMATION AND STRATEGIES PROPOSED IN THIS COURSE.
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FINANCIAL STATEMENT ANALYSIS
THE ADVANCED FINANCIAL STATMEENT ANALYSIS
MODULE 4: LONG-TERM DEBT ASSESSMENT
LEARNING MATERIAL – TAKEAWAY NOTE
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What is Long-term Debt Repayment Capacity?
Long-term debt repayment capacity is the second in importance
to short-term repayment capacity because of the longer time
horizons involved.
Nevertheless, creditors and potential creditors as well as value
investors pay plenty of attention to a company’s ability to service
its long-term debt.
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Long-term Debt Measurement Ratios
We use five ratios to assess long-term debt repayment capacity:
Financial Leverage
Net Debt to EBITDA
Asset Coverage
Cash Flow to Debt
Interest Coverage
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Financial Leverage Ratio - In a Nutshell
The term “financial leverage ratio” actually describes a group of
ratios designed to assess a company’s capital structure and
determine the degree of debt.
The most common leverage ratio is the debt-to-equity ratio.
Others include the debt ratio and equity ratio. An alternate
version uses average total assets divided by average total equity.
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Formula & Calculation
Total Debt
Financial Leverage Ratio =
Total Equity
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Real-world Examples
T-Mobile US Inc. Verizon Comm. Inc.
Sprint Corp. (S)
(TMUS) (VZ)
Total Debt $30.407 billion $40.914 billion $108.078 billion
Total Equity $18.236 billion $18.808 billion $22.524 billion
Leverage Ratio 1.67 2.18 4.80
Wal-Mart Stores Inc.
Albemarle Corp. (ALB) Boeing Co. (BA)
(WMT)
Total Debt $45.938 billion $2.369 billion $9.952 billion
Total Equity $77.798 billion $3.795 billion $817 million
Leverage Ratio 0.59 0.62 12.18
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Things to Take Away!
Key points for this ratio:
In general, a ratio near 1 is favorable
Extremely high ratios should be compared to peer and industry
averages to see how much the company deviates from the norm
An extremely low ratio may indicate that the company’s operating
margins are so tight that it is unwilling or unable to borrow
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Net Debt to EBITDA Ratio - In a Nutshell
The net debt to EBITDA ratio is another leverage measurement.
It looks at a rough measure of cash flow—earnings before
interest, taxes, depreciation, and amortization (EBITDA)—to see
how long a company would need to repay its debt at its current
level of earnings.
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Formula & Calculation
(Total Liabilities – Cash & Cash Equivalents)
Net Debt to EBITDA =
EBITDA
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Wealthy Education T-Mobile US Inc. Verizon Comm. Inc.
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Sprint Corp. (S)
(TMUS) (VZ)
Real-world
Total Liabilities
Examples
Cash & Cash Equivalents
$47.655 billion
$5.500 billion
$66.315 billion
$2.870 billion
$221.656 billion
$2.880 billion
Net Debt $42.155 billion $63.445 billion $218.776 billion
EBITDA $9.76 billion $10.42 billion $42.69 billion
Net Debt to EBITDA 4.32 6.09 5.12
Leverage Ratio 1.67 2.18 4.80
Wal-Mart Stores Inc. Albemarle Corp.
Boeing Co. (BA)
(WMT) (ALB)
Total Liabilities $121.027 billion $4.366 billion $89.180 billion
Cash & Cash Equivalents $6.602 billion $2.270 billion $8.801 billion
Net Debt $114.425 billion $2.096 billion $80.379 billion
EBITDA $32.97 billion $724.01 million $8.92 billion
Net Debt to EBITDA 3.47 2.90 9.01
Leverage Ratio 0.59 0.62 12.18
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Further Explanation
For companies that depend on cash flow to service debt, it is
important to see that those cash flows are stable or increasing.
A net debt to EBITDA ratio greater than 4 to 5 is a red flag, but
that is dependent on the industry and its predominant capital
structure.
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Things to Take Away!
Key points for this ratio:
Assesses leverage, but measures how quickly a company’s cash
flow could pay off its existing debt less cash on hand
Can be negative if a company has more cash than liabilities
Ratios above 4 to 5 are a potential red flag, depending on
industry
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Asset Coverage Ratio - In a Nutshell
The asset coverage ratio (ACR) is another liquidity measure.
If a company were to encounter financial problems and had to
liquidate assets in order to satisfy its debt, its creditors will
obviously be better off if the company has more assets than
debt. That degree of coverage is what the ratio determines.
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Formula & Calculation
Asset Coverage Ratio =
((Total Assets – Intangible Assets) – (Current Liabilities – Short−Term Debt))
Total Debt
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Wealthy Education T-Mobile US Inc. (TMUS) Sprint Corp. (S) Verizon Comm. Inc. (VZ)
Total Assets $65.891 billion $85.123 billion $244.180 billion
Real-world Examples
Intangible Assets
$27.390 billion $43.905 billion $95.570 billion
Current Liabilities $9.022 billion $12.458 billion $30.340 billion
Short-Term Debt $354 million $5.036 billion $2.645 billion
Total Debt $30.407 billion $40.914 billion $108.078 billion
Asset Coverage Ratio 0.98 0.83 1.12
Wal-Mart Stores Inc. (WMT) Albemarle Corp. (ALB) Boeing Co. (BA)
Total Assets $198.825 billion $8.161 billion $89.997 billion
Intangible Assets $26.958 billion $355 million $2.540 billion
Current Liabilities $66.928 billion $1.140 billion $50.134 billion
Short-Term Debt $3.92 billion $248 million $384 million
Total Debt $45.938 billion $2.369 billion $9.952 billion
Asset Coverage Ratio 2.37 2.92 3.79
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Further Explanation
It is acceptable to include those intangible assets that could be
sold for cash in this calculation. However, that is an issue if you are
a potential lender analyzing the creditworthiness of a company.
As an investor, you are comparing the relative performance of
companies, and excluding intangibles across the board is the
easiest way to get an apples-to-apples comparison.
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Further Explanation
These calculations use the net book value (that is, book value
less accumulated depreciation).
Depreciation is an accounting mechanism and so not an ideal
solution, but it is certainly better than the undepreciated value.
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Things to Take Away!
Key points for this ratio:
A liquidity measure that assesses how much of its debt a
company could cover by liquidating its assets
Intangible assets are generally excluded (especially for
investment comparisons) but can be included if they have a
cash conversion value
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Things to Take Away!
Key points for this ratio:
Higher numbers are better, and a value of at least 1 is
preferred
Assets should be calculated at net book value, although even
that amount is usually higher than the price they would
actually bring if sold
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Cash Flow to Debt Ratio - In a Nutshell
The cash flow to debt ratio (CFDR) is a liquidity measure very
similar to the net debt to EBITDA ratio.
It compares debt load to the cash available to pay it off, although
it approaches the problem from the opposite perspective since
net debt to EBITDA determines how many years it would take to
pay off debt with current EBITDA.
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Formula & Calculation
Net Cash Flow from Operations
Cash Flow to Debt Ratio =
Average Current Liabilities
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T-Mobile US Inc. Sprint Corp. Verizon Comm. Inc.
Real-world Examples (TMUS) (S) (VZ)
Cash Flow – Operations $6.135 billion $4.168 billion $22.715 billion
Avg. Current Liabilities $9.275 billion $12.2105 billion $32.969 billion
Cash Flow to Debt Ratio 0.66 0.34 0.69
Asset Coverage Ratio 0.98 0.83 1.12
Wal-Mart Stores Inc. Albemarle Corp. Boeing Co.
(WMT) (ALB) (BA)
Cash Flow – Operations $31.530 billion $733 million $10.499 billion
Avg. Current Liabilities $65.7735 billion $1.3785 billion $50.273 billion
Cash Flow to Debt Ratio 0.48 0.53 0.21
Asset Coverage Ratio 2.37 2.92 3.79
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Further Explanation
Net cash flow from operations gets to the heart of the matter.
The cash flow statement is the most telling in many respects and
usually the hardest to “fudge,” yet it usually gets the least attention.
The main way to improve the cash flow statement is to conserve
cash by holding vendor payments longer, but you can see exactly
how much cash that provided on the statement.
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Further Explanation
Since we’re comparing cash flow to debt, higher numbers are
better.
While in practical terms no company can devote all of its cash to
paying off debt, a CFDR of 1 means that theoretically the
company could pay off all of its short-term debt with a single
year’s cash inflows.
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Things to Take Away!
Key points for this ratio:
A liquidity measure that uses cash flow from operations, a
more accurate measure than EBITDA
Shows how much of its total current liabilities a company
could pay off with cash generated during the period
Higher numbers are better; a ratio of 1 or higher is excellent
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Interest Coverage Ratio - In a Nutshell
The interest coverage ratio (ICR) is a solvency measure that
determines how easily a company can service the interest
expense on its debt.
The ICR is not ideal for a few reasons, but it is often used as a
shorthand assessment of a company’s debt maintenance
capacity and as one means to determine risk by lenders.
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Formula & Calculation
Earnings Before Interest & Taxes
Interest Coverage Ratio =
Interest Expense
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Real-world Examples
T-Mobile US Inc. Verizon Comm. Inc.
Sprint Corp. (S)
(TMUS) (VZ)
EBIT $2.327 billion ($771 million) $20.986 billion
Interest Expense $1.730 billion $2.495 billion $4.376 billion
Interest Coverage Ratio 1.34 −0.31 4.80
Wal-Mart Stores Inc. Albemarle Corp.
Boeing Co. (BA)
(WMT) (ALB)
EBIT $20.497 billion $515 million $5.568 billion
Interest Expense $2.367 billion $65 million $306 million
Interest Coverage Ratio 8.66 7.92 18.20
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Further Explanation
As with some of these other ratios, they are first and foremost a
measure used by lenders.
For the investor, they are primarily an indication of how easily a
company will be able to secure credit for expansion or other
purposes and thus of overall financial health.
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Things to Take Away!
Key points for this ratio:
Assesses a company’s ability to service the interest on its debt
Is an approximation because it uses EBIT instead of EBITDA,
leaving out two major non-cash items and it does not measure
the company’s ability to make principal payments
A common but limited measure of debt capacity
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WHAT YOU WILL LEARN?
• Fully Develop a Successful Entrepreneurial Mindset (Most Important)
• What does really mean ‘doing business’?
THANK YOU FOR READING!
• Create Multiple Streams of Income
• How to Start a Business Effectively
• Master in Using the Power of Leverage
• How to Build a Successful Business Plan
