How Financially Strong Is Air New Zealand Limited (NZSE:AIR)?

Simply Wall St

Tue, Mar 26, 2019, 6:52 PM

While small-cap stocks, such as Air New Zealand Limited (NZSE:AIR) with its market cap of NZ$2.6b, are popular for their explosive growth, investors should also be aware of their balance sheet to judge whether the company can survive a downturn. Assessing first and foremost the financial health is crucial, since poor capital management may bring about bankruptcies, which occur at a higher rate for small-caps. Let's work through some financial health checks you may wish to consider if you're interested in this stock. Nevertheless, these checks don't give you a full picture, so I suggest you dig deeper yourself into AIR here.

Does AIR Produce Much Cash Relative To Its Debt?

AIR's debt level has been constant at around NZ$2.8b over the previous year which accounts for long term debt. At this current level of debt, the current cash and short-term investment levels stands at NZ$1.2b to keep the business going. On top of this, AIR has generated NZ$1.0b in operating cash flow in the last twelve months, leading to an operating cash to total debt ratio of 37%, meaning that AIR’s operating cash is sufficient to cover its debt.

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

Looking at AIR’s NZ$2.7b in current liabilities, the company may not have an easy time meeting these commitments with a current assets level of NZ$2.0b, leading to a current ratio of 0.73x. The current ratio is the number you get when you divide current assets by current liabilities.

NZSE:AIR Historical Debt, March 27th 2019

Does AIR face the risk of succumbing to its debt-load?

With total debt exceeding equity, AIR is considered a highly levered company. This is somewhat unusual for small-caps companies, since lenders are often hesitant to provide attractive interest rates to less-established businesses. 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 before interest and tax (EBIT) at least three times its net interest payments is considered financially sound. In AIR's case, the ratio of 21.37x suggests that interest is comfortably covered, which means that debtors may be willing to loan the company more money, giving AIR ample headroom to grow its debt facilities.

Next Steps:

AIR’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. Though its lack of liquidity raises questions over current asset management practices for the small-cap. This is only a rough assessment of financial health, and I'm sure AIR has company-specific issues impacting its capital structure decisions. You should continue to research Air New Zealand to get a more holistic view of the stock by looking at: