- Oops!Something went wrong.Please try again later.
Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Cooper Tire & Rubber Company (NYSE:CTB) does use debt in its business. But the more important question is: how much risk is that debt creating?
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 frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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. When we examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does Cooper Tire & Rubber Carry?
As you can see below, at the end of September 2020, Cooper Tire & Rubber had US$350.4m of debt, up from US$305.4m a year ago. Click the image for more detail. But it also has US$495.6m in cash to offset that, meaning it has US$145.2m net cash.
How Healthy Is Cooper Tire & Rubber's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Cooper Tire & Rubber had liabilities of US$640.3m due within 12 months and liabilities of US$891.5m due beyond that. Offsetting these obligations, it had cash of US$495.6m as well as receivables valued at US$584.6m due within 12 months. So its liabilities total US$451.6m more than the combination of its cash and short-term receivables.
This deficit isn't so bad because Cooper Tire & Rubber is worth US$2.07b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. Despite its noteworthy liabilities, Cooper Tire & Rubber boasts net cash, so it's fair to say it does not have a heavy debt load!
Also positive, Cooper Tire & Rubber grew its EBIT by 22% in the last year, and that should make it easier to pay down debt, going forward. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Cooper Tire & Rubber can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Cooper Tire & Rubber 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. Over the most recent three years, Cooper Tire & Rubber recorded free cash flow worth 78% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.
Although Cooper Tire & Rubber'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$145.2m. And it impressed us with free cash flow of US$407m, being 78% of its EBIT. So we don't think Cooper Tire & Rubber's use of debt is risky. Over time, share prices tend to follow earnings per share, so if you're interested in Cooper Tire & Rubber, you may well want to click here to check an interactive graph of its earnings per share history.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
This article by Simply Wall St is general in nature. 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.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.