Copart (NASDAQ:CPRT) Could Easily Take On More Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Copart, Inc. (NASDAQ:CPRT) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Copart

What Is Copart's Net Debt?

The chart below, which you can click on for greater detail, shows that Copart had US$408.9m in debt in October 2021; about the same as the year before. However, it does have US$1.30b in cash offsetting this, leading to net cash of US$889.4m.

How Strong Is Copart's Balance Sheet?

The latest balance sheet data shows that Copart had liabilities of US$491.9m due within a year, and liabilities of US$633.1m falling due after that. Offsetting this, it had US$1.30b in cash and US$116.8m in receivables that were due within 12 months. So it can boast US$290.1m more liquid assets than total liabilities.

Having regard to Copart's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the US$30.1b company is short on cash, but still worth keeping an eye on the balance sheet. Succinctly put, Copart boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Copart has boosted its EBIT by 42%, thus reducing the spectre of future debt repayments. 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 Copart can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Copart 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, Copart recorded free cash flow of 47% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While it is always sensible to investigate a company's debt, in this case Copart has US$889.4m in net cash and a decent-looking balance sheet. And we liked the look of last year's 42% year-on-year EBIT growth. So is Copart's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 1 warning sign with Copart , and understanding them should be part of your investment process.

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.