i'm out. 16 years of disappointment bites, page-20

“Is "NIBD-to-EBITDA rises to 1.6x" comparable with "...net debt to EBITDA ratio ... higher than 4 or 5 typically set off alarm bells.”

Yes, Happy One, the two phrases are directly comparable.

Although, I have to say that based on my experience, anything over 3.5x is courting financial trouble.

Certainly, NIBD-to-EBITDA of 4 or 5 times allows very little wiggle room in the event that the business hits an operational snag or if business conditions deteriorate.

Companies like that soon find themselves at the mercy of the banks and one thing I’ve seen far too often is that when the banks move on a company, it is always at the expense of the equity holders who either get badly diluted through heavily-discounted equity raisings or because the company is forced to become a distressed seller of the company’s best asset.

Just like in my private capacity, I hate investing in companies that are dependent on the kindness of strangers.

Even more so, when those strangers take the form of bankers!

So I personally prefer NIBD-to-EBITDA to be1.0x or less for my investee companies. I find it provides a degree of insulation against temporary exogenous shocks, and also provides strategic flexibility in terms of being able to fund growth, either organically or by acquisition.

However, like so many things in the word of investing, each situation needs qualifying.

For example, one needs to look at the relative capital intensity of a business, or the contingent future calls on capital, when determining an appropriate level of NIBD-to-EBITDA.

In other words, a company that consumes a high proportion of maintenance Capex as a percentage of Operating Cash Flow (OCF) (for example, a steel producer or a mining company, or a trucking company) will be able to only tolerate a lower NIBD-to-EBITDA than a company where the ratio of OCF-to-Capex is high (which is the case for SKE, where OCF-to-Capex is over 6 times).

The other thing to take into consideration is the rate of change in EBITDA.
Clearly if the company is growing fast, then EBITDA-to-Net Interest can be expected to rise quite quickly, (both as the numerator rises and, presumably, as the denominator shrinks - assuming the company generates Free Cash Flow).

So, long answer made short:
The appropriate level of conservative NIBD-to-EBITDA depends on the financial nature of the company in question, but as a general rule of thumb, I’d offer the following crude matrix:

OCF-to-Capex: <2.0x
Required NIBD-to-EBITDA: <1.0x

OCF-to-Capex: 2.0x to 4.0X
Required NIBD-to-EBITDA: <1.5x

OCF-to-Capex: >4.0x
Required NIBD-to-EBITDA: <2.0x


PS. Some professional investors quote EBITDA-to-Net Interest (also known as the “Interest Coverage Ratio”) when evaluating company indebtedness. The trouble with this metric, is that it fails to take account of changes in interest rates, and therefore company borrowing costs, over time. (i.e., in times of high interest rates, EBITDA-to-Net Interest tends to overstate indebtedness and in times of low interest rates, this metric tends to understate solvency risk).
The NIBD-to-EBITDA metric is interest rate agnostic, which why I tend to prefer it as a long-term investor.

Hope this helps.