Is Washington H. Soul Pattinson (ASX:SOL) Using Too Much Debt?

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.' 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, Washington H. Soul Pattinson and Company Limited (ASX:SOL) does carry debt. But should shareholders be worried about its use of debt?

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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Washington H. Soul Pattinson

What Is Washington H. Soul Pattinson's Debt?

You can click the graphic below for the historical numbers, but it shows that as of January 2021 Washington H. Soul Pattinson had AU$864.3m of debt, an increase on AU$589.4m, over one year. However, it also had AU$727.1m in cash, and so its net debt is AU$137.1m.

How Strong Is Washington H. Soul Pattinson's Balance Sheet?

The latest balance sheet data shows that Washington H. Soul Pattinson had liabilities of AU$478.3m due within a year, and liabilities of AU$1.72b falling due after that. Offsetting this, it had AU$727.1m in cash and AU$173.8m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$1.30b.

Given Washington H. Soul Pattinson has a market capitalization of AU$7.58b, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, 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 Washington H. Soul Pattinson'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.

In the last year Washington H. Soul Pattinson had a loss before interest and tax, and actually shrunk its revenue by 24%, to AU$1.3b. To be frank that doesn't bode well.

Caveat Emptor

While Washington H. Soul Pattinson's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost AU$89m at the EBIT level. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Surprisingly, we note that it actually reported positive free cash flow of AU$226m and a profit of AU$971m. So if we focus on those metrics there seems to be a chance the company will manage its debt without much trouble. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. We've identified 1 warning sign with Washington H. Soul Pattinson , and understanding them should be part of your investment process.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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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