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. Importantly, Barratt Developments plc (LON:BDEV) does carry debt. But the real question is whether this debt is making the company risky.
Why Does Debt Bring Risk?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. 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.
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What Is Barratt Developments's Debt?
As you can see below, Barratt Developments had UK£202.0m of debt, at December 2022, which is about the same as the year before. You can click the chart for greater detail. However, its balance sheet shows it holds UK£1.17b in cash, so it actually has UK£964.5m net cash.
How Healthy Is Barratt Developments' Balance Sheet?
According to the last reported balance sheet, Barratt Developments had liabilities of UK£1.55b due within 12 months, and liabilities of UK£821.4m due beyond 12 months. Offsetting these obligations, it had cash of UK£1.17b as well as receivables valued at UK£174.2m due within 12 months. So it has liabilities totalling UK£1.03b more than its cash and near-term receivables, combined.
Barratt Developments has a market capitalization of UK£4.66b, so it could very likely raise cash to ameliorate 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, Barratt Developments boasts net cash, so it's fair to say it does not have a heavy debt load!
Another good sign is that Barratt Developments has been able to increase its EBIT by 24% in twelve months, making it easier to pay down debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Barratt Developments 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, a company can only pay off debt with cold hard cash, not accounting profits. While Barratt Developments 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 most recent three years, Barratt Developments recorded free cash flow worth 58% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.
Summing Up
While Barratt Developments does have more liabilities than liquid assets, it also has net cash of UK£964.5m. And we liked the look of last year's 24% year-on-year EBIT growth. So is Barratt Developments's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 4 warning signs for Barratt Developments (1 makes us a bit uncomfortable!) that you should be aware of before investing here.
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.
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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.
About LSE:BTRW
Barratt Redrow
Engages in the housebuilding business in the United Kingdom.
Flawless balance sheet with reasonable growth potential.