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.' 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 note that Flight Centre Travel Group Limited (ASX:FLT) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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 Flight Centre Travel Group's Debt?
You can click the graphic below for the historical numbers, but it shows that Flight Centre Travel Group had AU$35.8m of debt in December 2018, down from AU$91.5m, one year before. But it also has AU$394.0m in cash to offset that, meaning it has AU$358.2m net cash.
A Look At Flight Centre Travel Group's Liabilities
The latest balance sheet data shows that Flight Centre Travel Group had liabilities of AU$1.32b due within a year, and liabilities of AU$173.5m falling due after that. On the other hand, it had cash of AU$394.0m and AU$812.2m worth of receivables due within a year. So its liabilities total AU$290.0m more than the combination of its cash and short-term receivables.
Since publicly traded Flight Centre Travel Group shares are worth a total of AU$4.73b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Flight Centre Travel Group also has more cash than debt, so we're pretty confident it can manage its debt safely.
Flight Centre Travel Group's EBIT was pretty flat over the last year, but that shouldn't be an issue given the it doesn't have a lot of debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Flight Centre Travel Group's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Flight Centre Travel Group 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. During the last three years, Flight Centre Travel Group produced sturdy free cash flow equating to 54% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.
We could understand if investors are concerned about Flight Centre Travel Group's liabilities, but we can be reassured by the fact it has has net cash of AU$358m. So we are not troubled with Flight Centre Travel Group's debt use. Given Flight Centre Travel Group has a strong balance sheet is profitable and pays a dividend, it would be good to know how fast its dividends are growing, if at all. You can find out instantly by clicking this link.
Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.
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