David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Cavco Industries, Inc. (NASDAQ:CVCO) makes use of debt. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
How Much Debt Does Cavco Industries Carry?
You can click the graphic below for the historical numbers, but it shows that Cavco Industries had US$5.30m of debt in April 2022, down from US$11.9m, one year before. However, it does have US$264.2m in cash offsetting this, leading to net cash of US$258.9m.
A Look At Cavco Industries' Liabilities
Zooming in on the latest balance sheet data, we can see that Cavco Industries had liabilities of US$294.2m due within 12 months and liabilities of US$29.5m due beyond that. On the other hand, it had cash of US$264.2m and US$96.1m worth of receivables due within a year. So it actually has US$36.6m more liquid assets than total liabilities.
This short term liquidity is a sign that Cavco Industries could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Cavco Industries has more cash than debt is arguably a good indication that it can manage its debt safely.
Better yet, Cavco Industries grew its EBIT by 129% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Cavco Industries's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Cavco Industries has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, Cavco Industries generated free cash flow amounting to a very robust 81% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.
While it is always sensible to investigate a company's debt, in this case Cavco Industries has US$258.9m in net cash and a decent-looking balance sheet. The cherry on top was that in converted 81% of that EBIT to free cash flow, bringing in US$126m. So is Cavco Industries's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 1 warning sign for Cavco Industries you should be aware of.
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.