Recently, I received the following message from a Seeking Alpha reader:
My question is whether you think Apache (APA) could possibly have poor financial health? I ask, because some SA readers want to buy APA Preferred D, which offers a profit of 26% (let alone the dividends along the way). Should its preferred stock be called? APA-D seems like a solid investment to me; just wondering what you think…
In order to answer this question, I did some additional analysis on the financial statement about solvency ratios and liquidity ratios. These ratios will answer the above mentioned question and, perhaps, might help many SA readers make a reasonable decision.
In my opinion, APA is financially healthy. This is proven by my calculations of this company's liquidity ratios and the solvency ratios. I'm going to walk you through the results of my calculations and the interpretations we can draw. Please see the table below.
1. Solvency Ratios
First, I'm going to explain to you the use of solvency ratios. Solvency ratios are a tool with which an investor can measure a company's ability to meet its long term obligations. Apache Corporation has an impressive 82% average solvency ratio from 2008. Although the ratio deteriorates from 2008 to the trailing twelve months by 67%, the ratio is still considerably strong. It tells us that APA is able to meet its long term debt obligations as well as its short term debt in the long run. APA has the ability to prosper even with its long term obligations. As solvency ratios help us to identify companies with poor financial health, the results of these ratios indicate that APA is capable of meeting its long term financial obligations.
In addition to the solvency ratio, let me walk you through the use of the Total Debt/Total Asset Ratio. This ratio is used to measure a company's financial risk by determining how much of the company's assets are financed by using debt. In the case of APA, the average Total Debt/Total Assets ratio is 18%, averaged over the last five years. It tells us that 18% of the total assets are financed by using debt, while 82% of the assets are financed by using equity.
2. Liquidity Ratios
The average current ratio for APA is 1.23 over the last five years. The ratio deteriorates by 47% from 2008, and its trailing twelve months ratio was only 0.90. This ratio indicates the company's efficiency in its operating cycle. The company is not in bad shape when it comes to turning its products into cash. Generally, a ratio of 2.0 is considered good.
Continuing, the acid test ratio determines whether or not a company has enough short term assets to cover its short term payables without selling off its inventories. APA has an average acid test ratio, or quick ratio, of 0.88. In general, a ratio of 1.0 is considered good, and since APA has a less than 1.0 ratio, this means that part of its short term payables will have to come from selling a part of its inventory.
No doubts, APA is financially healthy. The solvency ratios indicate that the company has the ability to meet its long term financial obligations.