Is Pets at Home Group (LON:PETS) 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. We note that Pets at Home Group Plc (LON:PETS) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. 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.

See our latest analysis for Pets at Home Group

What Is Pets at Home Group's Debt?

The chart below, which you can click on for greater detail, shows that Pets at Home Group had UK£97.4m in debt in October 2022; about the same as the year before. However, it does have UK£143.1m in cash offsetting this, leading to net cash of UK£45.7m.

A Look At Pets at Home Group's Liabilities

According to the last reported balance sheet, Pets at Home Group had liabilities of UK£345.3m due within 12 months, and liabilities of UK£463.2m due beyond 12 months. Offsetting these obligations, it had cash of UK£143.1m as well as receivables valued at UK£63.6m due within 12 months. So it has liabilities totalling UK£601.8m more than its cash and near-term receivables, combined.

This deficit isn't so bad because Pets at Home Group is worth UK£1.48b, and thus could probably raise enough capital to shore up 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, Pets at Home Group boasts net cash, so it's fair to say it does not have a heavy debt load!

Also good is that Pets at Home Group grew its EBIT at 11% over the last year, further increasing its ability to manage debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Pets at Home 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Pets at Home Group 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. Happily for any shareholders, Pets at Home Group actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While Pets at Home Group does have more liabilities than liquid assets, it also has net cash of UK£45.7m. And it impressed us with free cash flow of UK£143m, being 153% of its EBIT. So we don't think Pets at Home Group's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that Pets at Home Group is showing 1 warning sign in our investment analysis , you should know about...

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.