Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 note that TAL Education Group (NYSE:TAL) does have debt on its balance sheet. But is this debt a concern to shareholders?
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 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.
What Is TAL Education Group's Debt?
The image below, which you can click on for greater detail, shows that at May 2020 TAL Education Group had debt of US$265.4m, up from none in one year. However, its balance sheet shows it holds US$2.91b in cash, so it actually has US$2.65b net cash.
A Look At TAL Education Group's Liabilities
Zooming in on the latest balance sheet data, we can see that TAL Education Group had liabilities of US$2.61b due within 12 months and liabilities of US$1.34b due beyond that. Offsetting this, it had US$2.91b in cash and US$17.4m in receivables that were due within 12 months. So its liabilities total US$1.02b more than the combination of its cash and short-term receivables.
Of course, TAL Education Group has a titanic market capitalization of US$43.3b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, TAL Education Group boasts net cash, so it's fair to say it does not have a heavy debt load!
It is just as well that TAL Education Group's load is not too heavy, because its EBIT was down 51% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. 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 TAL Education Group'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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While TAL Education Group has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, TAL Education Group 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.
We could understand if investors are concerned about TAL Education Group's liabilities, but we can be reassured by the fact it has has net cash of US$2.65b. The cherry on top was that in converted 180% of that EBIT to free cash flow, bringing in US$880m. So we are not troubled with TAL Education Group's debt use. While TAL Education Group didn't make a statutory profit in the last year, its positive EBIT suggests that profitability might not be far away. Click here to see if its earnings are heading in the right direction, over the medium term.
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.
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.
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