Great analysis, thanks.
One of the best articles I have read on debt. Thank you I now know what to look for on company balance sheets.
Hugh - Good article, just to add for your benefit and the readers: - 'Net Debt': the brokers, IBs and you fund managers like this (Gross Debt less Cash). Bankers / Bond holders don't. Cash can be "here this morning, gone this afternoon" to pay wages, creditors, management, the Tax Office, etc, etc though the trade cycle should dictate there is also cash coming into the tin. However, the 'core' debt remains unchanged with the fluctuating, working capital component changing accordingly. - EBIT and EBITDA: Banks prefer the former, the fundies seem to prefer the later. Internally, every single bank will have written chapter & verse to its bankers about the perils of using EBITDA and to use EBIT. The 'DA' may be non-cash, but it has been incurred and paid for at some point; additionally, given goodwill is no longer amortised, there is a propensity to have large write-downs to 'shock' and 'surprise' the market. Companies and their auditors have both been poor in this regard. - You refer to 'Negative Covenants', these are just covenants. What you should be referring to is 'Negative Pledge' which protects banks and creditors. A good, tight, negative pledge is a good leash on a company, and a saviour to banks and creditors in ensuring there should be some value retained for them, and maybe even shareholders. - 'Material Adverse Change' may still be in some loan documents and proffers protection to Banks, in particular in situations where companies draw down facilities. - Market Cap covenants are appropriate for certain types of companies, For Babcocks and Blue / Black Sky they are relevant and suitable given their modus operandi, how they fund their balance sheet and their (excessive) use of double (or triple) leverage.
Superb contribution Michael - especially the difference between EBIT and EBITDA. When using EBITDA, a company's interest cover can look a lot healthier, but by excluding the "D" you are likely to exclude the costs to maintain a company's assets. An unsustainable position
Thanks Hugh ! Agree with your additional comment: The 'D' is the "keep it working" expense, ie: maintenance for wear and tear, and equipment TLC. The more accumulated depreciation of assets, the more vital it is and where it becomes evident if companies are starting to 'skimp' on things.