The Federal Reserve's quantitative easing efforts combined with its zero interest rate policy of the past few years have created extraordinarily cheap external financing options for corporations. Indeed, the corporate debt market has witnessed a boom in new issues at record low rates since the financial crisis subsided. This has enticed many companies to take advantage of record low rates and issue new debt "while the gettin' is good," as they say down South. This article will take a look at three such companies that may have issued a little bit too much in relation to their respective abilities to service the debt.
First up, Micron (MU) is a manufacturer of various storage and retrieval devices such as DRAM and NAND flash products used in mobile phones, cameras, MP3/4 players, etc. After turning a small profit in 2011, last year was ugly for Micron. Gross margins plummeted and the company lost over $1 billion for the fiscal year. To add to the pain, the company has taken on an additional $1.2 billion worth of debt as of the end of fiscal 2012, taking the total owed up to just over $3 billion in long-term debt alone.
When things were good for Micron in 2010, the company earned $1.85 billion in profit. However, 2011 saw that number dwindled to $167 million and 2012 saw a loss of $1.03 billion. Obviously, taking on almost a year's worth of income in debt is normally troublesome but this company has proven over the past two years that it is struggling to break even. There is no telling when, or if, the company will earn the $3 billion it needs simply to repay its current long-term debts.
Micron is a barely-profitable company that operates in a commodity-like environment. The company has nothing to offer its customers over other storage manufacturers as the products are largely the same from one to the other. In addition, the stock is trading within a breath of its 52-week highs right now, sporting a forward PE of greater than 15. Add to this the enormous amount of debt financing the company absorbed during fiscal 2012 and the outlook for the future is pretty grim. The company doesn't pay a dividend and with the stock trading near its highs while losing money, I will steer clear. There may be some value around $6 to $7 but at nearly $10, get long at your own peril.
Colfax (CFX) is an engineering and manufacturing firm that provides gas and fluid handling and fabrication technology and services to its customers under numerous brand names. After turning very small profits in 2010 and 2011, Colfax posted a rather large $84 million loss in 2012 as a large, extraordinary tax bill came due after acquiring Charter International. In addition, the $2.4 billion takeover price required Colfax to issue an additional $1.6 billion in long-term debt, now totaling just over $1.7 billion.
With Colfax expected to make roughly $240 million this year, this amount represents roughly 7 years' worth of earnings for the company and when you couple this overwhelming amount of debt, it doesn't paint a pretty picture. In addition, the company has a negative net worth so any hopes of repaying this debt with existing assets is futile.
Colfax is a very profitable enterprise but the Charter merger has put the company on a precarious financial footing. The company pays no dividend and with the stock trading for greater than 18 times 2013 estimated earnings, it looks expensive. With markets at all-time highs and CFX trading near its 52-week highs, I would stay away from this company as its prospects for growth may not be enough to eventually pay off its substantial debts. Even if the merger with Charter proves to be successful, the hole the company has dug itself into may prove to be too much. In short, I believe CFX is priced for perfection.
Actavis (ACT) is a specialty pharmaceutical company that develops, manufactures, markets and distributes generic, branded and over-the-counter pharmaceutical products globally. The company was founded in 1983 and offers its goods under many different categories and brand names. After growing earnings nicely from $184 million in 2010, to $261 million in 2011, earnings were crushed last year to $97 million as R&D and SG&A expenses more than devoured additional gross margin dollars. In addition, the company issued a staggering $5.4 billion in additional debt in 2012, to bring the dismal total up to $6.33 billion at the end of last year.
With Actavis expected to earn less than $1.2 billion in 2013, its overwhelming debt load represents just over five years' worth of income. The company's balance sheet sports shareholders' equity of $3.8 billion but a closer look reveals $8.5 billion in intangible assets, helping to bring tangible book value to negative $4.8 billion. Again, any hopes of potentially paying off its debt load with existing assets are nothing but a pipe dream.
Actavis is set to have an earnings yield of over 8% this year, based on its current $107 price. This is impressive as the stock enjoys a forward PE of less than 12 and a PEG ratio right at 1.0. With the stock trading at its highs near $110, it still looks cheap. The company does not pay a dividend but as a mid-cap pharmaceutical play, that is to be expected. The future looks bright for Actavis given the industry it operates in and its ability to execute. However, the enormous amount of debt the company has taken on is concerning. Any missteps along the way could prove too much for Actavis' ability to refinance the debt when it comes due. This is a terrific company trading for a cheap valuation and I suspect it is so cheap because of the very debt this piece highlights. If Actavis can execute in the coming years and eventually pay off its debt, the stock will soar. However, it is a bit too speculative for my tastes at the moment with the monumental amount of debt it has.