Berkshire Hathaway’s Charlie Munger-backed external fund manager Li Lu is quick to say “The biggest risk in investing is not price volatility, but whether you will suffer a permanent loss of capital”. So it can be obvious that you need to consider debt, when you think about how risky a given stock is because too much debt can sink a business. Like many other companies Stanley Black & Decker, Inc. (NYSE: SWK) uses debt. But does this debt worry shareholders?
What risk does debt entail?
Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. If things really go wrong, lenders can take over the business. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, the advantage of debt is that it often represents cheap capital, especially when it replaces dilution in a business with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash flow and debt together.
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How much debt does Stanley Black & Decker have?
The image below, which you can click for more details, shows Stanley Black & Decker owed $ 4.31 billion in debt at the end of July 2021, down from $ 5.48 billion. of US dollars over one year. However, it has US $ 440.4 million in cash to compensate for this, which leads to net debt of around US $ 3.87 billion.
A look at the responsibilities of Stanley Black & Decker
The latest balance sheet data shows Stanley Black & Decker had $ 5.40 billion in liabilities due within one year, and $ 7.47 billion in liabilities due thereafter. In compensation for these obligations, he had cash of US $ 440.4 million as well as receivables valued at US $ 1.99 billion due within 12 months. As a result, its liabilities exceed the sum of its cash and (short-term) receivables by $ 10.4 billion.
Stanley Black & Decker has a very large market capitalization of US $ 31.0 billion, so it could most likely raise funds to improve its balance sheet, should the need arise. But we absolutely want to keep our eyes open for indications that its debt is too risky.
In order to measure a company’s debt relative to its profits, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its profit before interest and taxes (EBIT) divided by its interest. debtors (its interest coverage). Thus, we consider debt versus earnings with and without amortization charges.
Stanley Black & Decker has a low net debt to EBITDA ratio of just 1.2. And its EBIT covers its interest costs 14.5 times more. So we’re pretty relaxed about its ultra-conservative use of debt. On top of that, Stanley Black & Decker has increased its EBIT by 83% over the past twelve months, and this growth will make it easier to process its debt. When analyzing debt levels, the balance sheet is the obvious starting point. But ultimately, the company’s future profitability will decide whether Stanley Black & Decker can strengthen its balance sheet over time. So if you are focused on the future you can check out this free report showing analysts’ earnings forecasts.
Finally, a business can only repay its debts with hard cash, not with book profits. We therefore always check how much of this EBIT is converted into free cash flow. Over the past three years, Stanley Black & Decker has recorded free cash flow of 68% of its EBIT, which is close to normal given that free cash flow excludes interest and taxes. This free cash flow puts the business in a good position to repay debt, if any.
Our point of view
Fortunately, Stanley Black & Decker’s impressive interest coverage means he has the upper hand on his debt. And that’s just the start of the good news as its EBIT growth rate is also very encouraging. Zooming out, Stanley Black & Decker appears to be using the debt fairly reasonably; and that gets the nod from us. After all, reasonable leverage can increase returns on equity. The balance sheet is clearly the area to focus on when analyzing debt. However, not all investment risks lie on the balance sheet – far from it. These risks can be difficult to spot. Every business has them, and we’ve spotted 1 warning sign for Stanley Black & Decker you should know.
If you are interested in investing in companies that can generate profits without the burden of debt, check out this page. free list of growing companies that have net cash on the balance sheet.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative material. Simply Wall St has no position in the mentioned stocks.
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