Jacobs Solutions (NYSE:J) Has A Pretty Healthy Balance Sheet
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.' 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 note that Jacobs Solutions Inc. (NYSE:J) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.
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. 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.
See our latest analysis for Jacobs Solutions
What Is Jacobs Solutions's Net Debt?
The image below, which you can click on for greater detail, shows that at December 2022 Jacobs Solutions had debt of US$3.49b, up from US$3.13b in one year. However, because it has a cash reserve of US$1.21b, its net debt is less, at about US$2.27b.
How Healthy Is Jacobs Solutions' Balance Sheet?
We can see from the most recent balance sheet that Jacobs Solutions had liabilities of US$3.24b falling due within a year, and liabilities of US$4.82b due beyond that. On the other hand, it had cash of US$1.21b and US$3.44b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$3.41b.
This deficit isn't so bad because Jacobs Solutions is worth a massive US$14.5b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).
With a debt to EBITDA ratio of 1.7, Jacobs Solutions uses debt artfully but responsibly. And the fact that its trailing twelve months of EBIT was 9.4 times its interest expenses harmonizes with that theme. Fortunately, Jacobs Solutions grew its EBIT by 3.7% in the last year, making that debt load look even more manageable. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Jacobs Solutions'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.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the most recent three years, Jacobs Solutions recorded free cash flow worth 69% 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
Happily, Jacobs Solutions's impressive conversion of EBIT to free cash flow implies it has the upper hand on its debt. And that's just the beginning of the good news since its interest cover is also very heartening. All these things considered, it appears that Jacobs Solutions can comfortably handle its current debt levels. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Jacobs Solutions's earnings per share history for free.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
New: Manage All Your Stock Portfolios in One Place
We've created the ultimate portfolio companion for stock investors, and it's free.
• Connect an unlimited number of Portfolios and see your total in one currency
• Be alerted to new Warning Signs or Risks via email or mobile
• Track the Fair Value of your stocks
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
About NYSE:J
Jacobs Solutions
Provides consulting, technical, engineering, scientific, and project delivery services for the government and private sectors in the United States, Europe, Canada, India, Asia, Australia, New Zealand, the Middle East, and Africa.
Excellent balance sheet and good value.