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How Financially Strong Is Fortescue Metals Group Limited (ASX:FMG)?

The size of Fortescue Metals Group Limited (ASX:FMG), a AU$14b large-cap, often attracts investors seeking a reliable investment in the stock market. One reason being its ‘too big to fail’ aura which gives it the appearance of a strong and stable investment. However, the key to their continued success lies in its financial health. Let’s take a look at Fortescue Metals Group’s leverage and assess its financial strength to get an idea of their ability to fund strategic acquisitions and grow through cyclical pressures. Remember this is a very top-level look that focuses exclusively on financial health, so I recommend a deeper analysis into FMG here.

View our latest analysis for Fortescue Metals Group

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How much cash does FMG generate through its operations?

Over the past year, FMG has reduced its debt from US$4.5b to US$4.0b – this includes long-term debt. With this debt repayment, the current cash and short-term investment levels stands at US$863m , ready to deploy into the business. Moreover, FMG has generated cash from operations of US$1.6b during the same period of time, leading to an operating cash to total debt ratio of 40%, meaning that FMG’s current level of operating cash is high enough to cover debt. This ratio can also be a sign of operational efficiency as an alternative to return on assets. In FMG’s case, it is able to generate 0.4x cash from its debt capital.

Can FMG pay its short-term liabilities?

With current liabilities at US$1.2b, it appears that the company has been able to meet these obligations given the level of current assets of US$1.7b, with a current ratio of 1.33x. Generally, for Metals and Mining companies, this is a reasonable ratio as there’s enough of a cash buffer without holding too much capital in low return investments.

ASX:FMG Historical Debt January 21st 19
ASX:FMG Historical Debt January 21st 19

Is FMG’s debt level acceptable?

With a debt-to-equity ratio of 41%, FMG can be considered as an above-average leveraged company. This isn’t uncommon for large companies because interest payments on debt are tax deductible, meaning debt can be a cheaper source of capital than equity. Accordingly, large companies often have an advantage over small-caps through lower cost of capital due to cheaper financing. We can check to see whether FMG is able to meet its debt obligations by looking at the net interest coverage ratio. Net interest should be covered by earnings before interest and tax (EBIT) by at least three times to be safe. In FMG’s case, the ratio of 5.83x suggests that interest is well-covered. Strong interest coverage is seen as a responsible and safe practice, which highlights why most investors believe large-caps such as FMG is a safe investment.

Next Steps:

Although FMG’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet obligations which means its debt is being efficiently utilised. Since there is also no concerns around FMG’s liquidity needs, this may be its optimal capital structure for the time being. I admit this is a fairly basic analysis for FMG’s financial health. Other important fundamentals need to be considered alongside. I recommend you continue to research Fortescue Metals Group to get a better picture of the large-cap by looking at:

  1. Future Outlook: What are well-informed industry analysts predicting for FMG’s future growth? Take a look at our free research report of analyst consensus for FMG’s outlook.

  2. Valuation: What is FMG 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 FMG 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.

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