Ross Stores (NASDAQ:ROST) Has A Pretty 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. We note that Ross Stores, Inc. (NASDAQ:ROST) does have debt on its balance sheet. But is this debt a concern to shareholders?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Ross Stores

What Is Ross Stores's Debt?

The chart below, which you can click on for greater detail, shows that Ross Stores had US$2.46b in debt in January 2023; about the same as the year before. But on the other hand it also has US$4.55b in cash, leading to a US$2.10b net cash position.

How Strong Is Ross Stores' Balance Sheet?

We can see from the most recent balance sheet that Ross Stores had liabilities of US$3.64b falling due within a year, and liabilities of US$5.49b due beyond that. Offsetting these obligations, it had cash of US$4.55b as well as receivables valued at US$157.5m due within 12 months. So it has liabilities totalling US$4.42b more than its cash and near-term receivables, combined.

Of course, Ross Stores has a titanic market capitalization of US$36.3b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Ross Stores also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact Ross Stores's saving grace is its low debt levels, because its EBIT has tanked 23% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. 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 Ross Stores'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 Ross Stores 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, Ross Stores recorded free cash flow worth a fulsome 85% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While Ross Stores does have more liabilities than liquid assets, it also has net cash of US$2.10b. The cherry on top was that in converted 85% of that EBIT to free cash flow, bringing in US$1.0b. So we are not troubled with Ross Stores'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. For example, we've discovered 1 warning sign for Ross Stores that you should be aware of before investing here.

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.

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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.