Does Natural Alternatives International (NASDAQ:NAII) Have A Healthy Balance Sheet?
Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Natural Alternatives International, Inc. (NASDAQ:NAII) does carry debt. But the real question is whether this debt is making the company risky.
When Is Debt A Problem?
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. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
See our latest analysis for Natural Alternatives International
How Much Debt Does Natural Alternatives International Carry?
As you can see below, at the end of March 2022, Natural Alternatives International had US$9.86m of debt, up from none a year ago. Click the image for more detail. However, it does have US$18.6m in cash offsetting this, leading to net cash of US$8.71m.
A Look At Natural Alternatives International's Liabilities
Zooming in on the latest balance sheet data, we can see that Natural Alternatives International had liabilities of US$24.4m due within 12 months and liabilities of US$26.0m due beyond that. On the other hand, it had cash of US$18.6m and US$16.7m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$15.1m.
This deficit isn't so bad because Natural Alternatives International is worth US$61.5m, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Natural Alternatives International boasts net cash, so it's fair to say it does not have a heavy debt load!
Also good is that Natural Alternatives International grew its EBIT at 16% over the last year, further increasing its ability to manage debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is Natural Alternatives International'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. Natural Alternatives International 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 last two years, Natural Alternatives International recorded negative free cash flow, in total. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.
Summing up
Although Natural Alternatives International'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$8.71m. And it impressed us with its EBIT growth of 16% over the last year. So we don't have any problem with Natural Alternatives International's use of debt. 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. We've identified 2 warning signs with Natural Alternatives International (at least 1 which is a bit unpleasant) , and understanding them should be part of your investment process.
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.
