Watts Water Technologies (NYSE:WTS) Seems To Use Debt Rather Sparingly

Warren Buffett famously said, '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. We note that Watts Water Technologies, Inc. (NYSE:WTS) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Watts Water Technologies

What Is Watts Water Technologies's Debt?

The chart below, which you can click on for greater detail, shows that Watts Water Technologies had US$147.6m in debt in December 2022; about the same as the year before. But on the other hand it also has US$314.3m in cash, leading to a US$166.7m net cash position.

How Healthy Is Watts Water Technologies' Balance Sheet?

We can see from the most recent balance sheet that Watts Water Technologies had liabilities of US$378.7m falling due within a year, and liabilities of US$251.6m due beyond that. On the other hand, it had cash of US$314.3m and US$233.8m worth of receivables due within a year. So it has liabilities totalling US$82.2m more than its cash and near-term receivables, combined.

This state of affairs indicates that Watts Water Technologies' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the US$5.55b company is struggling for cash, we still think it's worth monitoring its balance sheet. Despite its noteworthy liabilities, Watts Water Technologies boasts net cash, so it's fair to say it does not have a heavy debt load!

Also positive, Watts Water Technologies grew its EBIT by 25% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Watts Water Technologies'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Watts Water Technologies 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. During the last three years, Watts Water Technologies produced sturdy free cash flow equating to 69% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

We could understand if investors are concerned about Watts Water Technologies's liabilities, but we can be reassured by the fact it has has net cash of US$166.7m. And we liked the look of last year's 25% year-on-year EBIT growth. So we don't think Watts Water Technologies's use of debt is risky. We'd be very excited to see if Watts Water Technologies 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.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.