Does Sprouts Farmers Market, Inc.’s (NASDAQ:SFM) Debt Level Pose A Problem?

Small-caps and large-caps are wildly popular among investors, however, mid-cap stocks, such as Sprouts Farmers Market, Inc. (NASDAQ:SFM), with a market capitalization of US$2.8b, rarely draw their attention from the investing community. While they are less talked about as an investment category, mid-cap risk-adjusted returns have generally been better than more commonly focused stocks that fall into the small- or large-cap categories. Today we will look at SFM’s financial liquidity and debt levels, which are strong indicators for whether the company can weather economic downturns or fund strategic acquisitions for future growth. Don’t forget that this is a general and concentrated examination of Sprouts Farmers Market’s financial health, so you should conduct further analysis into SFM here.

Check out our latest analysis for Sprouts Farmers Market

SFM’s Debt (And Cash Flows)

Over the past year, SFM has ramped up its debt from US$483m to US$580m , which accounts for long term debt. With this rise in debt, the current cash and short-term investment levels stands at US$1.6m to keep the business going. Additionally, SFM has produced US$294m in operating cash flow in the last twelve months, leading to an operating cash to total debt ratio of 51%, meaning that SFM’s debt is appropriately covered by operating cash.

Can SFM meet its short-term obligations with the cash in hand?

Looking at SFM’s US$310m in current liabilities, the company has maintained a safe level of current assets to meet its obligations, with the current ratio last standing at 1.08x. The current ratio is calculated by dividing current assets by current liabilities. For Consumer Retailing companies, this ratio is within a sensible range as there’s enough of a cash buffer without holding too much capital in low return investments.

NasdaqGS:SFM Historical Debt, March 15th 2019
NasdaqGS:SFM Historical Debt, March 15th 2019

Is SFM’s debt level acceptable?

With a debt-to-equity ratio of 98%, SFM can be considered as an above-average leveraged company. This is not uncommon for a mid-cap company given that debt tends to be lower-cost and at times, more accessible. We can test if SFM’s debt levels are sustainable by measuring interest payments against earnings of a company. Ideally, earnings before interest and tax (EBIT) should cover net interest by at least three times. For SFM, the ratio of 8.55x suggests that interest is appropriately covered, which means that lenders may be inclined to lend more money to the company, as it is seen as safe in terms of payback.

Next Steps:

Although SFM’s debt level is towards the higher end of the spectrum, its cash flow coverage seems adequate to meet obligations which means its debt is being efficiently utilised. Since there is also no concerns around SFM’s liquidity needs, this may be its optimal capital structure for the time being. This is only a rough assessment of financial health, and I’m sure SFM has company-specific issues impacting its capital structure decisions. I recommend you continue to research Sprouts Farmers Market to get a more holistic view of the mid-cap by looking at:

  1. Future Outlook: What are well-informed industry analysts predicting for SFM’s future growth? Take a look at our free research report of analyst consensus for SFM’s outlook.
  2. Valuation: What is SFM worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether SFM is currently mispriced by the market.
  3. Other High-Performing Stocks: Are there other stocks that provide better prospects with proven track records? Explore our free list of these great stocks here.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.