Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 note that Walgreens Boots Alliance, Inc. (NASDAQ:WBA) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.
How Much Debt Does Walgreens Boots Alliance Carry?
You can click the graphic below for the historical numbers, but it shows that Walgreens Boots Alliance had US$13.9b of debt in November 2021, down from US$16.2b, one year before. On the flip side, it has US$4.14b in cash leading to net debt of about US$9.72b.
How Strong Is Walgreens Boots Alliance's Balance Sheet?
We can see from the most recent balance sheet that Walgreens Boots Alliance had liabilities of US$24.4b falling due within a year, and liabilities of US$38.7b due beyond that. Offsetting these obligations, it had cash of US$4.14b as well as receivables valued at US$6.06b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$52.9b.
Given this deficit is actually higher than the company's massive market capitalization of US$41.5b, we think shareholders really should watch Walgreens Boots Alliance's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.
We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).
Walgreens Boots Alliance's net debt of 1.7 times EBITDA suggests graceful use of debt. And the alluring interest cover (EBIT of 8.9 times interest expense) certainly does not do anything to dispel this impression. It is well worth noting that Walgreens Boots Alliance's EBIT shot up like bamboo after rain, gaining 40% in the last twelve months. That'll make it easier to manage its debt. 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 Walgreens Boots Alliance'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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Happily for any shareholders, Walgreens Boots Alliance actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.
Both Walgreens Boots Alliance's ability to to convert EBIT to free cash flow and its EBIT growth rate gave us comfort that it can handle its debt. But truth be told its level of total liabilities had us nibbling our nails. Considering this range of data points, we think Walgreens Boots Alliance is in a good position to manage its debt levels. But a word of caution: we think debt levels are high enough to justify ongoing monitoring. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Walgreens Boots Alliance is showing 3 warning signs in our investment analysis , and 1 of those is a bit unpleasant...
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
What are the risks and opportunities for Walgreens Boots Alliance?
Trading at 55.7% below our estimate of its fair value
Earnings are forecast to grow 50.22% per year
Significant insider selling over the past 3 months
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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.
Walgreens Boots Alliance
Walgreens Boots Alliance, Inc. operates as an integrated healthcare, pharmacy, and retailer in the United States (U.S.), the United Kingdom, Germany, and internationally.
Good value with adequate balance sheet and pays a dividend.