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. As with many other companies EMCOR Group, Inc. (NYSE:EME) makes use of debt. But the real question is whether this debt is making the company risky.
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
What Is EMCOR Group's Debt?
The chart below, which you can click on for greater detail, shows that EMCOR Group had US$267.3m in debt in September 2021; about the same as the year before. However, it does have US$663.9m in cash offsetting this, leading to net cash of US$396.6m.
How Healthy Is EMCOR Group's Balance Sheet?
According to the last reported balance sheet, EMCOR Group had liabilities of US$2.25b due within 12 months, and liabilities of US$904.5m due beyond 12 months. Offsetting these obligations, it had cash of US$663.9m as well as receivables valued at US$2.46b due within 12 months. So these liquid assets roughly match the total liabilities.
Having regard to EMCOR Group's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the US$6.44b company is short on cash, but still worth keeping an eye on the balance sheet. Despite its noteworthy liabilities, EMCOR Group boasts net cash, so it's fair to say it does not have a heavy debt load!
And we also note warmly that EMCOR Group grew its EBIT by 11% last year, making its debt load easier to handle. 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 EMCOR 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 company can only pay off debt with cold hard cash, not accounting profits. While EMCOR 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. During the last three years, EMCOR Group generated free cash flow amounting to a very robust 92% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.
We could understand if investors are concerned about EMCOR Group's liabilities, but we can be reassured by the fact it has has net cash of US$396.6m. And it impressed us with free cash flow of US$334m, being 92% of its EBIT. So we don't think EMCOR Group's use of debt is risky. We'd be very excited to see if EMCOR Group insiders have been snapping up shares. If you are too, then click on this link right now to take a (free) peek at our list of reported insider transactions.
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
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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.