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The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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, Seaboard Corporation (NYSEMKT:SEB) does carry debt. But is this debt a concern to shareholders?
When Is Debt A Problem?
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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
How Much Debt Does Seaboard Carry?
As you can see below, at the end of June 2020, Seaboard had US$991.0m of debt, up from US$948.0m a year ago. Click the image for more detail. However, it does have US$1.26b in cash offsetting this, leading to net cash of US$266.0m.
A Look At Seaboard's Liabilities
The latest balance sheet data shows that Seaboard had liabilities of US$1.02b due within a year, and liabilities of US$1.46b falling due after that. Offsetting these obligations, it had cash of US$1.26b as well as receivables valued at US$551.0m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$675.0m.
Since publicly traded Seaboard shares are worth a total of US$3.94b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Seaboard also has more cash than debt, so we're pretty confident it can manage its debt safely.
In addition to that, we're happy to report that Seaboard has boosted its EBIT by 58%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Seaboard will need earnings to service that debt. 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. While Seaboard 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. During the last three years, Seaboard burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.
While Seaboard does have more liabilities than liquid assets, it also has net cash of US$266.0m. And we liked the look of last year's 58% year-on-year EBIT growth. So we don't have any problem with Seaboard's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 3 warning signs for Seaboard (1 is concerning) you should be aware of.
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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