Is Alimentation Couche-Tard (TSE:ATD) A Risky Investment?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies Alimentation Couche-Tard Inc. (TSE:ATD) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Alimentation Couche-Tard

What Is Alimentation Couche-Tard's Net Debt?

As you can see below, at the end of October 2023, Alimentation Couche-Tard had US$6.85b of debt, up from US$5.90b a year ago. Click the image for more detail. However, it also had US$2.05b in cash, and so its net debt is US$4.80b.

How Healthy Is Alimentation Couche-Tard's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Alimentation Couche-Tard had liabilities of US$6.06b due within 12 months and liabilities of US$11.3b due beyond that. Offsetting these obligations, it had cash of US$2.05b as well as receivables valued at US$2.46b due within 12 months. So it has liabilities totalling US$12.8b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Alimentation Couche-Tard has a huge market capitalization of US$61.4b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Alimentation Couche-Tard has a low net debt to EBITDA ratio of only 0.92. And its EBIT easily covers its interest expense, being 15.4 times the size. So we're pretty relaxed about its super-conservative use of debt. Fortunately, Alimentation Couche-Tard grew its EBIT by 7.7% in the last year, making that debt load look even more manageable. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Alimentation Couche-Tard'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the most recent three years, Alimentation Couche-Tard recorded free cash flow worth 65% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

Happily, Alimentation Couche-Tard's impressive interest cover implies it has the upper hand on its debt. And that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. When we consider the range of factors above, it looks like Alimentation Couche-Tard is pretty sensible with its use of debt. That means they are taking on a bit more risk, in the hope of boosting shareholder returns. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 1 warning sign for Alimentation Couche-Tard you should be aware of.

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. 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.