Does Cavco Industries (NASDAQ:CVCO) Have A Healthy Balance Sheet?

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.' 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. As with many other companies Cavco Industries, Inc. (NASDAQ:CVCO) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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 think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Cavco Industries

What Is Cavco Industries's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Cavco Industries had US$1.64m of debt in December 2022, down from US$5.50m, one year before. However, its balance sheet shows it holds US$392.8m in cash, so it actually has US$391.1m net cash.

A Look At Cavco Industries' Liabilities

We can see from the most recent balance sheet that Cavco Industries had liabilities of US$278.4m falling due within a year, and liabilities of US$29.6m due beyond that. Offsetting this, it had US$392.8m in cash and US$80.1m in receivables that were due within 12 months. So it can boast US$164.8m more liquid assets than total liabilities.

This surplus suggests that Cavco Industries has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Cavco Industries boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, Cavco Industries grew its EBIT by 97% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Cavco Industries can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Cavco 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, Cavco Industries recorded free cash flow worth 78% 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.

Summing Up

While it is always sensible to investigate a company's debt, in this case Cavco Industries has US$391.1m in net cash and a decent-looking balance sheet. And we liked the look of last year's 97% year-on-year EBIT growth. So we don't think Cavco Industries's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Cavco 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.

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.