Small-caps and large-caps are wildly popular among investors; however, mid-cap stocks, such as Fortune Brands Home & Security Inc (NYSE:FBHS) with a market-capitalization of US$6.6b, rarely draw their attention. However, generally ignored mid-caps have historically delivered better risk-adjusted returns than the two other categories of stocks. Today we will look at FBHS’s financial liquidity and debt levels, which are strong indicators for whether the company can weather economic downturns or fund strategic acquisitions for future growth. Remember this is a very top-level look that focuses exclusively on financial health, so I recommend a deeper analysis into FBHS here.

See our latest analysis for Fortune Brands Home & Security

How does FBHS’s operating cash flow stack up against its debt?

Over the past year, FBHS has ramped up its debt from US$1.4b to US$2.1b – this includes both the current and long-term debt. With this growth in debt, FBHS currently has US$346m remaining in cash and short-term investments for investing into the business. On top of this, FBHS has generated US$566m in operating cash flow in the last twelve months, resulting in an operating cash to total debt ratio of 26%, meaning that FBHS’s current level of operating cash is high enough to cover debt. This ratio can also be interpreted as a measure of efficiency as an alternative to return on assets. In FBHS’s case, it is able to generate 0.26x cash from its debt capital.

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

Looking at FBHS’s most recent US$1.2b liabilities, it seems that the business has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 1.47x. Generally, for Building companies, this is a reasonable ratio as there’s enough of a cash buffer without holding too much capital in low return investments.

Is FBHS’s debt level acceptable?

FBHS is a relatively highly levered company with a debt-to-equity of 99%. This is not uncommon for a mid-cap company given that debt tends to be lower-cost and at times, more accessible. We can test if FBHS’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For FBHS, the ratio of 12.43x suggests that interest is comfortably covered, which means that lenders may be less hesitant to lend out more funding as FBHS’s high interest coverage is seen as responsible and safe practice.

Next Steps:

FBHS’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. This may mean this is an optimal capital structure for the business, given that it is also meeting its short-term commitment. I admit this is a fairly basic analysis for FBHS’s financial health. Other important fundamentals need to be considered alongside. I suggest you continue to research Fortune Brands Home & Security to get a more holistic view of the mid-cap by looking at:

1. Future Outlook: What are well-informed industry analysts predicting for FBHS’s future growth? Take a look at our free research report of analyst consensus for FBHS’s outlook.

2. Valuation: What is FBHS worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether FBHS is currently mispriced by the market.

3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.

The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.