Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Frontier Group Holdings, Inc. (NASDAQ:ULCC) does use debt in its business. But the real question is whether this debt is making the company risky.
When Is Debt A Problem?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Frontier Group Holdings's Net Debt?
The image below, which you can click on for greater detail, shows that at September 2023 Frontier Group Holdings had debt of US$3.34b, up from US$429.0m in one year. However, it also had US$640.0m in cash, and so its net debt is US$2.70b.
How Strong Is Frontier Group Holdings' Balance Sheet?
We can see from the most recent balance sheet that Frontier Group Holdings had liabilities of US$1.69b falling due within a year, and liabilities of US$2.71b due beyond that. Offsetting this, it had US$640.0m in cash and US$157.0m in receivables that were due within 12 months. So it has liabilities totalling US$3.60b more than its cash and near-term receivables, combined.
The deficiency here weighs heavily on the US$1.52b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, Frontier Group Holdings would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Frontier Group Holdings can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
In the last year Frontier Group Holdings wasn't profitable at an EBIT level, but managed to grow its revenue by 7.9%, to US$3.6b. That rate of growth is a bit slow for our taste, but it takes all types to make a world.
Caveat Emptor
Importantly, Frontier Group Holdings had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost US$2.0m at the EBIT level. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it burned through US$237m in negative free cash flow over the last year. That means it's on the risky side of things. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 1 warning sign we've spotted with Frontier Group Holdings .
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.