Is PPG Industries (NYSE:PPG) A Risky Investment?

Simply Wall St
November 27, 2021
Source: Shutterstock

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. Importantly, PPG Industries, Inc. (NYSE:PPG) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for PPG Industries

How Much Debt Does PPG Industries Carry?

The image below, which you can click on for greater detail, shows that at September 2021 PPG Industries had debt of US$6.79b, up from US$5.49b in one year. On the flip side, it has US$1.31b in cash leading to net debt of about US$5.48b.

NYSE:PPG Debt to Equity History November 28th 2021

A Look At PPG Industries' Liabilities

The latest balance sheet data shows that PPG Industries had liabilities of US$5.46b due within a year, and liabilities of US$10.0b falling due after that. Offsetting these obligations, it had cash of US$1.31b as well as receivables valued at US$3.38b due within 12 months. So its liabilities total US$10.8b more than the combination of its cash and short-term receivables.

This deficit isn't so bad because PPG Industries is worth a massive US$36.9b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

PPG Industries's net debt to EBITDA ratio of about 2.2 suggests only moderate use of debt. And its strong interest cover of 20.1 times, makes us even more comfortable. Also relevant is that PPG Industries has grown its EBIT by a very respectable 25% in the last year, thus enhancing its ability to pay down debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine PPG Industries'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 the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the last three years, PPG Industries recorded free cash flow worth a fulsome 95% 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

Happily, PPG Industries's impressive interest cover implies it has the upper hand on its debt. And that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. Zooming out, PPG Industries seems to use debt quite reasonably; and that gets the nod from us. After all, sensible leverage can boost returns 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. For example, we've discovered 1 warning sign for PPG Industries that you should be aware of before investing here.

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.

Discounted cash flow calculation for every stock

Simply Wall St does a detailed discounted cash flow calculation every 6 hours for every stock on the market, so if you want to find the intrinsic value of any company just search here. It’s FREE.

Make Confident Investment Decisions

Simply Wall St's Editorial Team provides unbiased, factual reporting on global stocks using in-depth fundamental analysis.
Find out more about our editorial guidelines and team.