Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We can see that Silicon Laboratories Inc. (NASDAQ:SLAB) does use debt in its business. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Silicon Laboratories's Net Debt?
As you can see below, at the end of April 2022, Silicon Laboratories had US$528.1m of debt, up from US$434.3m a year ago. Click the image for more detail. But on the other hand it also has US$1.93b in cash, leading to a US$1.41b net cash position.
A Look At Silicon Laboratories' Liabilities
According to the last reported balance sheet, Silicon Laboratories had liabilities of US$246.2m due within 12 months, and liabilities of US$589.9m due beyond 12 months. Offsetting this, it had US$1.93b in cash and US$79.2m in receivables that were due within 12 months. So it can boast US$1.18b more liquid assets than total liabilities.
It's good to see that Silicon Laboratories has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Simply put, the fact that Silicon Laboratories has more cash than debt is arguably a good indication that it can manage its debt safely.
We also note that Silicon Laboratories improved its EBIT from a last year's loss to a positive US$15m. 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 Silicon Laboratories'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 Silicon Laboratories 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. Over the last year, Silicon Laboratories saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.
While we empathize with investors who find debt concerning, you should keep in mind that Silicon Laboratories has net cash of US$1.41b, as well as more liquid assets than liabilities. So we are not troubled with Silicon Laboratories's debt use. We'd be motivated to research the stock further if we found out that Silicon Laboratories insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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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.