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These 4 Measures Indicate That ARC Document Solutions (NYSE:ARC) Is Using Debt Reasonably Well

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Warren Buffett famously said, 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that ARC Document Solutions, Inc. (NYSE:ARC) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for ARC Document Solutions

What Is ARC Document Solutions's Net Debt?

The image below, which you can click on for greater detail, shows that ARC Document Solutions had debt of US$48.8m at the end of June 2021, a reduction from US$75.0m over a year. However, its balance sheet shows it holds US$52.4m in cash, so it actually has US$3.62m net cash.


How Strong Is ARC Document Solutions' Balance Sheet?

We can see from the most recent balance sheet that ARC Document Solutions had liabilities of US$75.1m falling due within a year, and liabilities of US$99.4m due beyond that. On the other hand, it had cash of US$52.4m and US$38.2m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$83.9m.

This deficit is considerable relative to its market capitalization of US$117.8m, so it does suggest shareholders should keep an eye on ARC Document Solutions' use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. While it does have liabilities worth noting, ARC Document Solutions also has more cash than debt, so we're pretty confident it can manage its debt safely.

We saw ARC Document Solutions grow its EBIT by 6.1% in the last twelve months. That's far from incredible but it is a good thing, when it comes to paying off debt. There's no doubt that we learn most about debt from the balance sheet. But it is ARC Document Solutions's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. ARC Document Solutions may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Happily for any shareholders, ARC Document Solutions actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

Although ARC Document Solutions's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of US$3.62m. The cherry on top was that in converted 305% of that EBIT to free cash flow, bringing in US$40m. So we are not troubled with ARC Document Solutions's debt use. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 2 warning signs for ARC Document Solutions that you should be aware of before investing here.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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.

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