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We Think Signet Jewelers (NYSE:SIG) Can Manage Its Debt With Ease

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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. Importantly, Signet Jewelers Limited (NYSE:SIG) does carry 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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.

See our latest analysis for Signet Jewelers

What Is Signet Jewelers's Debt?

As you can see below, Signet Jewelers had US$147.3m of debt at July 2021, down from US$1.34b a year prior. But on the other hand it also has US$1.57b in cash, leading to a US$1.43b net cash position.

debt-equity-history-analysis
debt-equity-history-analysis

How Strong Is Signet Jewelers' Balance Sheet?

We can see from the most recent balance sheet that Signet Jewelers had liabilities of US$1.84b falling due within a year, and liabilities of US$2.26b due beyond that. Offsetting this, it had US$1.57b in cash and US$65.6m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$2.47b.

While this might seem like a lot, it is not so bad since Signet Jewelers has a market capitalization of US$4.60b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Signet Jewelers also has more cash than debt, so we're pretty confident it can manage its debt safely.

Even more impressive was the fact that Signet Jewelers grew its EBIT by 1,144% over twelve months. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Signet Jewelers'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, a company can only pay off debt with cold hard cash, not accounting profits. While Signet Jewelers 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, Signet Jewelers 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.

Summing up

While Signet Jewelers does have more liabilities than liquid assets, it also has net cash of US$1.43b. The cherry on top was that in converted 220% of that EBIT to free cash flow, bringing in US$1.6b. So is Signet Jewelers's debt a risk? It doesn't seem so to us. 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. Case in point: We've spotted 2 warning signs for Signet Jewelers you should be aware of, and 1 of them doesn't sit too well with us.

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.

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.

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