Here's Why Burberry Group (LON:BRBY) Can Manage Its Debt Responsibly

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 note that Burberry Group plc (LON:BRBY) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Burberry Group

How Much Debt Does Burberry Group Carry?

You can click the graphic below for the historical numbers, but it shows that as of October 2022 Burberry Group had UK£374.0m of debt, an increase on UK£351.6m, over one year. But on the other hand it also has UK£1.02b in cash, leading to a UK£643.0m net cash position.

A Look At Burberry Group's Liabilities

Zooming in on the latest balance sheet data, we can see that Burberry Group had liabilities of UK£857.0m due within 12 months and liabilities of UK£1.35b due beyond that. On the other hand, it had cash of UK£1.02b and UK£377.0m worth of receivables due within a year. So its liabilities total UK£809.0m more than the combination of its cash and short-term receivables.

Of course, Burberry Group has a market capitalization of UK£7.55b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Burberry Group also has more cash than debt, so we're pretty confident it can manage its debt safely.

While Burberry Group doesn't seem to have gained much on the EBIT line, at least earnings remain stable for now. 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 Burberry Group 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. Burberry Group may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, Burberry Group generated free cash flow amounting to a very robust 98% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While Burberry Group does have more liabilities than liquid assets, it also has net cash of UK£643.0m. The cherry on top was that in converted 98% of that EBIT to free cash flow, bringing in UK£512m. So is Burberry Group's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. We've identified 2 warning signs with Burberry Group , and understanding them should be part of your investment process.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.