Here's Why Teradyne (NASDAQ:TER) Can Manage Its Debt Responsibly

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. As with many other companies Teradyne, Inc. (NASDAQ:TER) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Teradyne

What Is Teradyne's Debt?

As you can see below, Teradyne had US$50.1m of debt at December 2022, down from US$108.4m a year prior. But on the other hand it also has US$894.4m in cash, leading to a US$844.3m net cash position.

How Strong Is Teradyne's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Teradyne had liabilities of US$746.3m due within 12 months and liabilities of US$303.7m due beyond that. Offsetting these obligations, it had cash of US$894.4m as well as receivables valued at US$491.1m due within 12 months. So it actually has US$335.6m more liquid assets than total liabilities.

This short term liquidity is a sign that Teradyne could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Teradyne boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Teradyne's saving grace is its low debt levels, because its EBIT has tanked 28% 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. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Teradyne 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Teradyne 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 most recent three years, Teradyne recorded free cash flow worth 69% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While it is always sensible to investigate a company's debt, in this case Teradyne has US$844.3m in net cash and a decent-looking balance sheet. The cherry on top was that in converted 69% of that EBIT to free cash flow, bringing in US$415m. So we are not troubled with Teradyne'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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Teradyne you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.