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. As with many other companies Edwards Lifesciences Corporation (NYSE:EW) makes use of debt. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.
How Much Debt Does Edwards Lifesciences Carry?
The chart below, which you can click on for greater detail, shows that Edwards Lifesciences had US$596.7m in debt in June 2023; about the same as the year before. But on the other hand it also has US$1.51b in cash, leading to a US$912.6m net cash position.
A Look At Edwards Lifesciences' Liabilities
According to the last reported balance sheet, Edwards Lifesciences had liabilities of US$1.16b due within 12 months, and liabilities of US$1.40b due beyond 12 months. On the other hand, it had cash of US$1.51b and US$816.9m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$231.3m.
This state of affairs indicates that Edwards Lifesciences' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the US$43.7b company is short on cash, but still worth keeping an eye on the balance sheet. While it does have liabilities worth noting, Edwards Lifesciences also has more cash than debt, so we're pretty confident it can manage its debt safely.
But the other side of the story is that Edwards Lifesciences saw its EBIT decline by 2.3% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. 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 Edwards Lifesciences'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. Edwards Lifesciences 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, Edwards Lifesciences produced sturdy free cash flow equating to 62% 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 Edwards Lifesciences's liabilities, but we can be reassured by the fact it has has net cash of US$912.6m. So is Edwards Lifesciences's debt a risk? It doesn't seem so to us. We'd be motivated to research the stock further if we found out that Edwards Lifesciences 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.
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.
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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.