Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that The TJX Companies, Inc. (NYSE:TJX) does use debt in its business. But the more important question is: how much risk is that debt creating?
Why Does Debt Bring Risk?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. 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 TJX Companies Carry?
The image below, which you can click on for greater detail, shows that at August 2020 TJX Companies had debt of US$6.19b, up from US$2.24b in one year. But it also has US$6.62b in cash to offset that, meaning it has US$425.9m net cash.
A Look At TJX Companies's Liabilities
We can see from the most recent balance sheet that TJX Companies had liabilities of US$7.65b falling due within a year, and liabilities of US$14.3b due beyond that. Offsetting these obligations, it had cash of US$6.62b as well as receivables valued at US$749.9m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$14.5b.
This deficit isn't so bad because TJX Companies is worth a massive US$65.9b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, TJX Companies boasts net cash, so it's fair to say it does not have a heavy debt load!
In fact TJX Companies's saving grace is its low debt levels, because its EBIT has tanked 74% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if TJX Companies can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While TJX Companies 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, TJX Companies produced sturdy free cash flow equating to 74% 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.
Although TJX Companies's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of US$425.9m. And it impressed us with free cash flow of US$2.4b, being 74% of its EBIT. So we don't have any problem with TJX Companies's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that TJX Companies is showing 3 warning signs in our investment analysis , you should know about...
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
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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