Envestnet (NYSE:ENV) Has A Pretty Healthy Balance Sheet

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 Envestnet, Inc. (NYSE:ENV) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest 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.

View our latest analysis for Envestnet

What Is Envestnet's Net Debt?

The image below, which you can click on for greater detail, shows that Envestnet had debt of US$876.6m at the end of December 2023, a reduction from US$916.7m over a year. However, it does have US$91.4m in cash offsetting this, leading to net debt of about US$785.2m.

How Healthy Is Envestnet's Balance Sheet?

According to the last reported balance sheet, Envestnet had liabilities of US$292.5m due within 12 months, and liabilities of US$1.01b due beyond 12 months. Offsetting this, it had US$91.4m in cash and US$125.0m in receivables that were due within 12 months. So its liabilities total US$1.09b more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Envestnet is worth US$3.42b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Weak interest cover of 2.3 times and a disturbingly high net debt to EBITDA ratio of 6.4 hit our confidence in Envestnet like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. However, it should be some comfort for shareholders to recall that Envestnet actually grew its EBIT by a hefty 221%, over the last 12 months. If that earnings trend continues it will make its debt load much more manageable in the future. 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 Envestnet'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. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Happily for any shareholders, Envestnet actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

The good news is that Envestnet's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. But we must concede we find its net debt to EBITDA has the opposite effect. Looking at all the aforementioned factors together, it strikes us that Envestnet can handle its debt fairly comfortably. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. We'd be motivated to research the stock further if we found out that Envestnet insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.