Is WH Smith (LON:SMWH) A Risky Investment?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that WH Smith PLC (LON:SMWH) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for WH Smith

What Is WH Smith's Debt?

As you can see below, WH Smith had UK£400.0m of debt at February 2021, down from UK£445.0m a year prior. However, it also had UK£72.0m in cash, and so its net debt is UK£328.0m.

How Healthy Is WH Smith's Balance Sheet?

The latest balance sheet data shows that WH Smith had liabilities of UK£326.0m due within a year, and liabilities of UK£803.0m falling due after that. On the other hand, it had cash of UK£72.0m and UK£52.0m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by UK£1.01b.

WH Smith has a market capitalization of UK£2.28b, 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. 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 WH Smith can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

In the last year WH Smith had a loss before interest and tax, and actually shrunk its revenue by 52%, to UK£694m. That makes us nervous, to say the least.

Caveat Emptor

Not only did WH Smith's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at UK£144m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled UK£25m in negative free cash flow over the last twelve months. So suffice it to say we do consider the stock to be risky. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for WH Smith you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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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