Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 can see that Vista Outdoor Inc. (NYSE:VSTO) does use debt in its business. But should shareholders be worried about its use of debt?
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. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Vista Outdoor's Debt?
You can click the graphic below for the historical numbers, but it shows that as of March 2022 Vista Outdoor had US$666.1m of debt, an increase on US$495.6m, over one year. On the flip side, it has US$22.6m in cash leading to net debt of about US$643.5m.
A Look At Vista Outdoor's Liabilities
Zooming in on the latest balance sheet data, we can see that Vista Outdoor had liabilities of US$393.9m due within 12 months and liabilities of US$877.9m due beyond that. Offsetting this, it had US$22.6m in cash and US$400.3m in receivables that were due within 12 months. So it has liabilities totalling US$848.9m more than its cash and near-term receivables, combined.
While this might seem like a lot, it is not so bad since Vista Outdoor has a market capitalization of US$1.49b, 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.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.
Vista Outdoor's net debt is only 0.89 times its EBITDA. And its EBIT covers its interest expense a whopping 25.7 times over. So we're pretty relaxed about its super-conservative use of debt. Even more impressive was the fact that Vista Outdoor grew its EBIT by 137% over twelve months. That boost will make it even easier to pay down debt going forward. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Vista Outdoor's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. During the last three years, Vista Outdoor produced sturdy free cash flow equating to 67% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.
Happily, Vista Outdoor's impressive interest cover implies it has the upper hand on its debt. But truth be told we feel its level of total liabilities does undermine this impression a bit. Looking at the bigger picture, we think Vista Outdoor's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Vista Outdoor is showing 3 warning signs in our investment analysis , and 1 of those makes us a bit uncomfortable...
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.