Here's Why Hyster-Yale Materials Handling (NYSE:HY) Has A Meaningful Debt Burden

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 can see that Hyster-Yale Materials Handling, Inc. (NYSE:HY) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Hyster-Yale Materials Handling

How Much Debt Does Hyster-Yale Materials Handling Carry?

As you can see below, Hyster-Yale Materials Handling had US$466.7m of debt at December 2023, down from US$523.3m a year prior. However, it also had US$84.4m in cash, and so its net debt is US$382.3m.

A Look At Hyster-Yale Materials Handling's Liabilities

According to the last reported balance sheet, Hyster-Yale Materials Handling had liabilities of US$1.22b due within 12 months, and liabilities of US$453.7m due beyond 12 months. On the other hand, it had cash of US$84.4m and US$497.5m worth of receivables due within a year. So its liabilities total US$1.09b more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of US$1.12b, so it does suggest shareholders should keep an eye on Hyster-Yale Materials Handling's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Hyster-Yale Materials Handling has net debt worth 1.5 times EBITDA, which isn't too much, but its interest cover looks a bit on the low side, with EBIT at only 5.5 times the interest expense. While that doesn't worry us too much, it does suggest the interest payments are somewhat of a burden. We also note that Hyster-Yale Materials Handling improved its EBIT from a last year's loss to a positive US$206m. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Hyster-Yale Materials Handling's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Over the most recent year, Hyster-Yale Materials Handling recorded free cash flow worth 56% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

Hyster-Yale Materials Handling's level of total liabilities was a real negative on this analysis, although the other factors we considered cast it in a significantly better light. But on the bright side, its ability to to convert EBIT to free cash flow isn't too shabby at all. Taking the abovementioned factors together we do think Hyster-Yale Materials Handling's debt poses some risks to the business. While that debt can boost returns, we think the company has enough leverage now. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - Hyster-Yale Materials Handling has 2 warning signs we think you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.