Foot Locker (NYSE:FL) Seems To Use Debt Quite Sensibly

Simply Wall St
January 05, 2022
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Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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, Foot Locker, Inc. (NYSE:FL) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Foot Locker

What Is Foot Locker's Debt?

The image below, which you can click on for greater detail, shows that at October 2021 Foot Locker had debt of US$560.0m, up from US$120.0m in one year. However, it does have US$1.34b in cash offsetting this, leading to net cash of US$779.0m.

NYSE:FL Debt to Equity History January 5th 2022

A Look At Foot Locker's Liabilities

According to the last reported balance sheet, Foot Locker had liabilities of US$1.76b due within 12 months, and liabilities of US$3.11b due beyond 12 months. Offsetting these obligations, it had cash of US$1.34b as well as receivables valued at US$125.0m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$3.41b.

This deficit is considerable relative to its market capitalization of US$4.49b, so it does suggest shareholders should keep an eye on Foot Locker's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. While it does have liabilities worth noting, Foot Locker also has more cash than debt, so we're pretty confident it can manage its debt safely.

Even more impressive was the fact that Foot Locker grew its EBIT by 228% over twelve months. That boost will make it even easier to pay down debt going forward. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Foot Locker can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Foot Locker may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, Foot Locker generated free cash flow amounting to a very robust 97% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing up

While Foot Locker does have more liabilities than liquid assets, it also has net cash of US$779.0m. And it impressed us with free cash flow of US$708m, being 97% of its EBIT. So is Foot Locker's debt a risk? It doesn't seem so to us. 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 instance, we've identified 3 warning signs for Foot Locker (1 can't be ignored) you should be aware of.

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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