Stock Analysis

Paycom Software (NYSE:PAYC) Seems To Use Debt Rather Sparingly

NYSE:PAYC
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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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Paycom Software, Inc. (NYSE:PAYC) 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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. 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 Paycom Software

What Is Paycom Software's Net Debt?

As you can see below, Paycom Software had US$29.0m of debt, at December 2022, which is about the same as the year before. You can click the chart for greater detail. But it also has US$400.7m in cash to offset that, meaning it has US$371.7m net cash.

debt-equity-history-analysis
NYSE:PAYC Debt to Equity History March 12th 2023

How Strong Is Paycom Software's Balance Sheet?

The latest balance sheet data shows that Paycom Software had liabilities of US$2.38b due within a year, and liabilities of US$342.9m falling due after that. On the other hand, it had cash of US$400.7m and US$28.4m worth of receivables due within a year. So its liabilities total US$2.29b more than the combination of its cash and short-term receivables.

Since publicly traded Paycom Software shares are worth a very impressive total of US$15.8b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Paycom Software also has more cash than debt, so we're pretty confident it can manage its debt safely.

In addition to that, we're happy to report that Paycom Software has boosted its EBIT by 49%, thus reducing the spectre of future debt repayments. 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 Paycom Software 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. Paycom Software 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, Paycom Software recorded free cash flow worth 68% 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

Although Paycom Software'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$371.7m. And it impressed us with its EBIT growth of 49% over the last year. So we don't think Paycom Software's use of debt is risky. Another factor that would give us confidence in Paycom Software would be if insiders have been buying shares: if you're conscious of that signal too, you can find out instantly by clicking this link.

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.