Is Cavco Industries (NASDAQ:CVCO) Using Too Much 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 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. 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?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Cavco Industries's Debt?

The image below, which you can click on for greater detail, shows that at December 2024 Cavco Industries had debt of US$1.62m, up from US$1.54m in one year. But it also has US$378.9m in cash to offset that, meaning it has US$377.3m net cash.

How Healthy Is Cavco Industries' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Cavco Industries had liabilities of US$285.2m due within 12 months and liabilities of US$43.3m due beyond that. Offsetting these obligations, it had cash of US$378.9m as well as receivables valued at US$91.8m due within 12 months. So it actually has US$142.2m 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. Simply put, the fact that Cavco Industries has more cash than debt is arguably a good indication that it can manage its debt safely.

Check out our latest analysis for Cavco Industries

But the other side of the story is that Cavco Industries saw its EBIT decline by 4.3% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. 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'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. While Cavco Industries has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the most recent three years, Cavco Industries recorded free cash flow worth 79% 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.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Cavco Industries has net cash of US$377.3m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of US$139m, being 79% of its EBIT. 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. However, not all investment risk resides within the balance sheet - far from it. Be aware that Cavco Industries is showing 1 warning sign in our investment analysis , you should know about...

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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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.