These 4 Measures Indicate That Renishaw (LON:RSW) Is Using Debt Reasonably Well

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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, Renishaw plc (LON:RSW) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Renishaw

What Is Renishaw's Debt?

The image below, which you can click on for greater detail, shows that Renishaw had debt of UK£4.69m at the end of June 2023, a reduction from UK£6.08m over a year. But on the other hand it also has UK£206.4m in cash, leading to a UK£201.7m net cash position.

A Look At Renishaw's Liabilities

According to the last reported balance sheet, Renishaw had liabilities of UK£102.3m due within 12 months, and liabilities of UK£44.6m due beyond 12 months. Offsetting this, it had UK£206.4m in cash and UK£164.2m in receivables that were due within 12 months. So it actually has UK£223.7m more liquid assets than total liabilities.

This short term liquidity is a sign that Renishaw could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Renishaw has more cash than debt is arguably a good indication that it can manage its debt safely.

On the other hand, Renishaw's EBIT dived 10%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Renishaw's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Renishaw 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. Looking at the most recent three years, Renishaw recorded free cash flow of 47% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Renishaw has net cash of UK£201.7m, as well as more liquid assets than liabilities. So we are not troubled with Renishaw's debt use. 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. For example, we've discovered 1 warning sign for Renishaw 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.