Is Peabody Energy (NYSE:BTU) A Risky Investment?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Peabody Energy Corporation (NYSE:BTU) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. 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 Peabody Energy

How Much Debt Does Peabody Energy Carry?

You can click the graphic below for the historical numbers, but it shows that Peabody Energy had US$310.6m of debt in March 2023, down from US$1.07b, one year before. But it also has US$892.2m in cash to offset that, meaning it has US$581.6m net cash.

A Look At Peabody Energy's Liabilities

The latest balance sheet data shows that Peabody Energy had liabilities of US$866.4m due within a year, and liabilities of US$1.40b falling due after that. On the other hand, it had cash of US$892.2m and US$394.7m worth of receivables due within a year. So its liabilities total US$983.3m more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Peabody Energy is worth US$3.05b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, Peabody Energy also has more cash than debt, so we're pretty confident it can manage its debt safely.

Better yet, Peabody Energy grew its EBIT by 528% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Peabody Energy'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 company can only pay off debt with cold hard cash, not accounting profits. While Peabody Energy 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. Over the most recent two years, Peabody Energy recorded free cash flow worth 72% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While Peabody Energy does have more liabilities than liquid assets, it also has net cash of US$581.6m. And it impressed us with its EBIT growth of 528% over the last year. So we don't think Peabody Energy's use of debt is risky. 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. We've identified 1 warning sign with Peabody Energy , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.