There are a number of reasons that attract investors towards large-cap companies such as AbbVie Inc (NYSE:ABBV), with a market cap of USD $152.79B. One such reason is its ‘too big to fail’ aura which gives it the appearance of a strong and healthy investment. However, investors may not be aware of the metrics used to measure financial health. There are always disruptions which destabilize an existing industry, and although large-caps are hard to knock down, it is useful to understand its level of resilience. Thus, it becomes utmost important for an investor to test a company’s resilience for such contingencies. In simple terms, I believe these three small calculations tell most of the story you need to know. Check out our latest analysis for AbbVie
Does ABBV face the risk of succumbing to its debt-load?
What is considered a high debt-to-equity ratio differs depending on the industry, because some industries tend to utilize more debt financing than others. A ratio below 40% for large-cap stocks is considered as financially healthy, as a rule of thumb. In the case of ABBV, the debt-to-equity ratio is over 100%, which indicates that the company is holding a high level of debt relative to its net worth. In the event of financial turmoil, the company may experience difficulty meeting interest and other debt obligations. 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 at least three times its interest payments is considered financially sound. In ABBV’s case, its interest is excessively covered by its earnings as the ratio sits at 10.03x. Lenders may be less hesitant to lend out more funding as ABBV’s high interest coverage is seen as responsible and safe practice.
Does ABBV generate an acceptable amount of cash through operations?
A simple way to determine whether the company has put debt into good use is to look at its operating cash flow against its debt obligation. This also assesses ABBV’s debt repayment capacity, which is not a big concern for a large company. ABBV’s recent operating cash flow was 0.23 times its debt within the past year. A ratio of over 0.1x shows that ABBV is generating adequate cash from its core business, which should increase its potential to pay back near-term debt.
Are you a shareholder? With a high level of debt on its balance sheet, ABBV could still be in a financially strong position if its cash flow also stacked up. However, this isn’t the case so investors should ask themselves if they believe ABBV can sustainably increase its operational efficiency going forward. Since ABBV’s financial position may differ over time, You should continue assessing market expectations for ABBV’s future growth on our free analysis platform.
Are you a potential investor? Although investors should analyse the serviceability of debt, it shouldn’t be viewed in isolation of other factors. After all, debt is often used to fund or accelerate new projects that are expected to improve a company’s growth trajectory in the longer term. As for next steps, I encourage potential investors to look at ABBV’s Return on Capital Employed (ROCE) in order to see management’s track record at deploying funds in high-returning projects.
To help readers see pass 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.