Does H&R Block (NYSE:HRB) 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. As with many other companies H&R Block, Inc. (NYSE:HRB) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for H&R Block

What Is H&R Block's Net Debt?

As you can see below, H&R Block had US$1.49b of debt, at June 2024, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has US$1.05b in cash leading to net debt of about US$440.6m.

How Healthy Is H&R Block's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that H&R Block had liabilities of US$977.3m due within 12 months and liabilities of US$2.15b due beyond that. Offsetting these obligations, it had cash of US$1.05b as well as receivables valued at US$69.1m due within 12 months. So its liabilities total US$2.01b more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since H&R Block has a market capitalization of US$8.78b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its 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).

H&R Block has a low net debt to EBITDA ratio of only 0.48. And its EBIT easily covers its interest expense, being 10.2 times the size. So we're pretty relaxed about its super-conservative use of debt. The good news is that H&R Block has increased its EBIT by 7.6% over twelve months, which should ease any concerns about debt repayment. 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 H&R Block'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 we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, H&R Block recorded free cash flow worth a fulsome 94% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Our View

The good news is that H&R Block's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. And the good news does not stop there, as its net debt to EBITDA also supports that impression! Looking at the bigger picture, we think H&R Block'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. 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. Be aware that H&R Block is showing 2 warning signs in our investment analysis , you should know about...

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.