Here's Why Champion Homes (NYSE:SKY) Can Manage Its Debt Responsibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. We can see that Champion Homes, Inc. (NYSE:SKY) does use debt in its business. 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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Champion Homes

How Much Debt Does Champion Homes Carry?

As you can see below, at the end of September 2024, Champion Homes had US$110.7m of debt, up from US$12.4m a year ago. Click the image for more detail. But on the other hand it also has US$570.2m in cash, leading to a US$459.6m net cash position.

A Look At Champion Homes' Liabilities

According to the last reported balance sheet, Champion Homes had liabilities of US$418.7m due within 12 months, and liabilities of US$116.7m due beyond 12 months. Offsetting this, it had US$570.2m in cash and US$74.8m in receivables that were due within 12 months. So it can boast US$109.6m more liquid assets than total liabilities.

This state of affairs indicates that Champion Homes' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the US$5.95b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Champion Homes has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Champion Homes's saving grace is its low debt levels, because its EBIT has tanked 35% 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 ultimately the future profitability of the business will decide if Champion Homes 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 company can only pay off debt with cold hard cash, not accounting profits. While Champion Homes 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. During the last three years, Champion Homes produced sturdy free cash flow equating to 75% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Champion Homes has net cash of US$459.6m, as well as more liquid assets than liabilities. The cherry on top was that in converted 75% of that EBIT to free cash flow, bringing in US$183m. So we don't have any problem with Champion Homes's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 2 warning signs for Champion Homes that you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.