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 Miller Industries, Inc. (NYSE:MLR) does use debt in its business. But the more important question is: how much risk is that debt creating?
What Risk Does Debt Bring?
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. If things get really bad, the lenders can take control of the business. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Miller Industries's Net Debt?
As you can see below, Miller Industries had US$10.5m of debt, at September 2019, which is about the same the year before. You can click the chart for greater detail. However, it does have US$27.5m in cash offsetting this, leading to net cash of US$17.0m.
A Look At Miller Industries's Liabilities
According to the last reported balance sheet, Miller Industries had liabilities of US$140.4m due within 12 months, and liabilities of US$13.0m due beyond 12 months. Offsetting this, it had US$27.5m in cash and US$165.8m in receivables that were due within 12 months. So it can boast US$39.9m more liquid assets than total liabilities.
This short term liquidity is a sign that Miller Industries could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Miller Industries boasts net cash, so it's fair to say it does not have a heavy debt load!
Also good is that Miller Industries grew its EBIT at 17% 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 it is Miller Industries's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Miller Industries 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. In the last three years, Miller Industries's free cash flow amounted to 22% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.
While it is always sensible to investigate a company's debt, in this case Miller Industries has US$17.0m in net cash and a decent-looking balance sheet. And we liked the look of last year's 17% year-on-year EBIT growth. So is Miller Industries's debt a risk? It doesn't seem so to us. 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 Miller Industries is showing 1 warning sign in our investment analysis , you should know about...
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.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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. Simply Wall St has no position in the stocks mentioned.
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