These 4 Measures Indicate That Scholastic (NASDAQ:SCHL) Is Using Debt Reasonably Well

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.' 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. Importantly, Scholastic Corporation (NASDAQ:SCHL) does carry debt. But the more important question is: how much risk is that debt creating?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Scholastic

How Much Debt Does Scholastic Carry?

As you can see below, Scholastic had US$5.90m of debt at August 2023, down from US$6.30m a year prior. But on the other hand it also has US$125.8m in cash, leading to a US$119.9m net cash position.

How Strong Is Scholastic's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Scholastic had liabilities of US$598.7m due within 12 months and liabilities of US$119.0m due beyond that. Offsetting these obligations, it had cash of US$125.8m as well as receivables valued at US$235.3m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$356.6m.

While this might seem like a lot, it is not so bad since Scholastic has a market capitalization of US$1.13b, and so it could probably strengthen its balance sheet by raising capital if it needed to. 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, Scholastic also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact Scholastic's saving grace is its low debt levels, because its EBIT has tanked 28% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 Scholastic'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, a company can only pay off debt with cold hard cash, not accounting profits. While Scholastic 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 last three years, Scholastic actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

Although Scholastic's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of US$119.9m. And it impressed us with free cash flow of US$106m, being 147% of its EBIT. So we are not troubled with Scholastic's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Be aware that Scholastic is showing 1 warning sign in our investment analysis , you should know about...

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.