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Legendary fund manager Li Lu (who Charlie Munger backed) once said, ‘The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.’ It’s only natural to consider a company’s balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Bassett Furniture Industries, Incorporated (NASDAQ:BSET) does have debt on its balance sheet. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Bassett Furniture Industries’s Debt?
The image below, which you can click on for greater detail, shows that Bassett Furniture Industries had debt of US$72.0k at the end of June 2019, a reduction from US$541.0k over a year. But on the other hand it also has US$34.2m in cash, leading to a US$34.2m net cash position.
How Strong Is Bassett Furniture Industries’s Balance Sheet?
The latest balance sheet data shows that Bassett Furniture Industries had liabilities of US$67.5m due within a year, and liabilities of US$25.9m falling due after that. Offsetting these obligations, it had cash of US$34.2m as well as receivables valued at US$21.4m due within 12 months. So its liabilities total US$37.7m more than the combination of its cash and short-term receivables.
While this might seem like a lot, it is not so bad since Bassett Furniture Industries has a market capitalization of US$134.3m, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. Bassett Furniture Industries boasts net cash, so it’s fair to say it does not have a heavy debt load!
In fact Bassett Furniture Industries’s saving grace is its low debt levels, because its EBIT has tanked 58% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 Bassett Furniture Industries’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. Bassett Furniture Industries 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. Over the most recent three years, Bassett Furniture Industries recorded free cash flow worth 60% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.
While Bassett Furniture Industries does have more liabilities than liquid assets, it also has net cash of US$34m. So we are not troubled with Bassett Furniture Industries’s debt use. Of course, we wouldn’t say no to the extra confidence that we’d gain if we knew that Bassett Furniture Industries insiders have been buying shares: if you’re on the same wavelength, you can find out if insiders are buying by clicking this link.
If, after all that, you’re more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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If you spot an error that warrants correction, please contact the editor at email@example.com. 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. Thank you for reading.