Does Smith & Wesson Brands (NASDAQ:SWBI) 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. We can see that Smith & Wesson Brands, Inc. (NASDAQ:SWBI) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Smith & Wesson Brands

What Is Smith & Wesson Brands's Net Debt?

As you can see below, at the end of April 2024, Smith & Wesson Brands had US$39.9m of debt, up from US$24.8m a year ago. Click the image for more detail. But on the other hand it also has US$60.8m in cash, leading to a US$21.0m net cash position.

A Look At Smith & Wesson Brands' Liabilities

According to the last reported balance sheet, Smith & Wesson Brands had liabilities of US$96.7m due within 12 months, and liabilities of US$83.1m due beyond 12 months. Offsetting these obligations, it had cash of US$60.8m as well as receivables valued at US$61.6m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$57.4m.

Since publicly traded Smith & Wesson Brands shares are worth a total of US$638.7m, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, Smith & Wesson Brands also has more cash than debt, so we're pretty confident it can manage its debt safely.

On the other hand, Smith & Wesson Brands saw its EBIT drop by 8.5% in the last twelve months. 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 it is future earnings, more than anything, that will determine Smith & Wesson Brands'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Smith & Wesson Brands 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. In the last three years, Smith & Wesson Brands created free cash flow amounting to 17% of its EBIT, an uninspiring performance. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing Up

We could understand if investors are concerned about Smith & Wesson Brands's liabilities, but we can be reassured by the fact it has has net cash of US$21.0m. So we don't have any problem with Smith & Wesson Brands's use of debt. 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. For example, we've discovered 1 warning sign for Smith & Wesson Brands that you should be aware of before investing here.

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.

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