David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 Maxim Integrated Products, Inc. (NASDAQ:MXIM) makes use of debt. But is this debt a concern to shareholders?
When Is Debt A Problem?
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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Maxim Integrated Products's Debt?
As you can see below, Maxim Integrated Products had US$993.3m of debt, at December 2019, which is about the same the year before. You can click the chart for greater detail. However, its balance sheet shows it holds US$1.78b in cash, so it actually has US$789.9m net cash.
How Strong Is Maxim Integrated Products's Balance Sheet?
According to the last reported balance sheet, Maxim Integrated Products had liabilities of US$360.5m due within 12 months, and liabilities of US$1.54b due beyond 12 months. Offsetting this, it had US$1.78b in cash and US$348.3m in receivables that were due within 12 months. So it can boast US$231.2m more liquid assets than total liabilities.
Having regard to Maxim Integrated Products's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the US$17.1b company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Maxim Integrated Products has more cash than debt is arguably a good indication that it can manage its debt safely.
It is just as well that Maxim Integrated Products's load is not too heavy, because its EBIT was down 24% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Maxim Integrated Products'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. While Maxim Integrated Products 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. Over the last three years, Maxim Integrated Products actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.
While it is always sensible to investigate a company's debt, in this case Maxim Integrated Products has US$789.9m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of US$737m, being 101% of its EBIT. So we don't have any problem with Maxim Integrated Products's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Maxim Integrated Products is showing 1 warning sign in our investment analysis , you should know about...
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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