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Are Arcadis NV’s (AMS:ARCAD) Interest Costs Too High?

Brandy Kinsey

Investors are always looking for growth in small-cap stocks like Arcadis NV (AMS:ARCAD), with a market cap of €1.0b. However, an important fact which most ignore is: how financially healthy is the business? Assessing first and foremost the financial health is vital, as mismanagement of capital can lead to bankruptcies, which occur at a higher rate for small-caps. Here are few basic financial health checks you should consider before taking the plunge. However, I know these factors are very high-level, so I recommend you dig deeper yourself into ARCAD here.

How does ARCAD’s operating cash flow stack up against its debt?

ARCAD has shrunken its total debt levels in the last twelve months, from €800m to €718m , which includes long-term debt. With this reduction in debt, ARCAD currently has €241m remaining in cash and short-term investments , ready to deploy into the business. Moreover, ARCAD has produced cash from operations of €174m during the same period of time, leading to an operating cash to total debt ratio of 24%, meaning that ARCAD’s debt is appropriately covered by operating cash. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In ARCAD’s case, it is able to generate 0.24x cash from its debt capital.

Does ARCAD’s liquid assets cover its short-term commitments?

With current liabilities at €1.2b, the company has been able to meet these commitments with a current assets level of €1.5b, leading to a 1.2x current account ratio. Generally, for Construction companies, this is a reasonable ratio since there is a bit of a cash buffer without leaving too much capital in a low-return environment.

ENXTAM:ARCAD Historical Debt January 24th 19

Is ARCAD’s debt level acceptable?

With debt reaching 71% of equity, ARCAD may be thought of as relatively highly levered. This is not uncommon for a small-cap company given that debt tends to be lower-cost and at times, more accessible. No matter how high the company’s debt, if it can easily cover the interest payments, it’s considered to be efficient with its use of excess leverage. A company generating earnings after interest and tax at least three times its net interest payments is considered financially sound. In ARCAD’s case, the ratio of 8.61x suggests that interest is appropriately covered, which means that lenders may be less hesitant to lend out more funding as ARCAD’s high interest coverage is seen as responsible and safe practice.

Next Steps:

ARCAD’s high cash coverage means that, although its debt levels are high, the company is able to utilise its borrowings efficiently in order to generate cash flow. Since there is also no concerns around ARCAD’s liquidity needs, this may be its optimal capital structure for the time being. Keep in mind I haven’t considered other factors such as how ARCAD has been performing in the past. You should continue to research Arcadis to get a more holistic view of the small-cap by looking at:

  1. Future Outlook: What are well-informed industry analysts predicting for ARCAD’s future growth? Take a look at our free research report of analyst consensus for ARCAD’s outlook.
  2. Valuation: What is ARCAD worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether ARCAD is currently mispriced by the market.
  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.