Is Signet Jewelers (NYSE:SIG) Using Too Much Debt?

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. As with many other companies Signet Jewelers Limited (NYSE:SIG) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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 think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Signet Jewelers

How Much Debt Does Signet Jewelers Carry?

The chart below, which you can click on for greater detail, shows that Signet Jewelers had US$147.6m in debt in October 2023; about the same as the year before. But on the other hand it also has US$643.8m in cash, leading to a US$496.2m net cash position.

How Healthy Is Signet Jewelers' Balance Sheet?

According to the last reported balance sheet, Signet Jewelers had liabilities of US$1.87b due within 12 months, and liabilities of US$1.97b due beyond 12 months. Offsetting these obligations, it had cash of US$643.8m as well as receivables valued at US$20.0m due within 12 months. So its liabilities total US$3.17b more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of US$4.51b, so it does suggest shareholders should keep an eye on Signet Jewelers' use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. While it does have liabilities worth noting, Signet Jewelers also has more cash than debt, so we're pretty confident it can manage its debt safely.

On the other hand, Signet Jewelers's EBIT dived 14%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Signet Jewelers can strengthen its balance sheet over time. 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. Signet Jewelers 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. Over the last three years, Signet Jewelers actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

Although Signet Jewelers'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$496.2m. And it impressed us with free cash flow of US$614m, being 104% of its EBIT. So we don't have any problem with Signet Jewelers's use of debt. Of course, we wouldn't say no to the extra confidence that we'd gain if we knew that Signet Jewelers insiders have been buying shares: if you're on the same wavelength, you can find out if insiders are buying by clicking this link.

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.