FARO Technologies (NASDAQ:FARO) Has A Pretty Healthy Balance Sheet

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.' 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 FARO Technologies, Inc. (NASDAQ:FARO) 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. 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, 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.

Check out our latest analysis for FARO Technologies

What Is FARO Technologies's Debt?

As you can see below, FARO Technologies had US$70.1m of debt, at September 2024, which is about the same as the year before. You can click the chart for greater detail. But it also has US$88.9m in cash to offset that, meaning it has US$18.8m net cash.

How Healthy Is FARO Technologies' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that FARO Technologies had liabilities of US$112.9m due within 12 months and liabilities of US$121.2m due beyond that. On the other hand, it had cash of US$88.9m and US$83.2m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$62.0m.

Since publicly traded FARO Technologies shares are worth a total of US$493.2m, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, FARO Technologies also has more cash than debt, so we're pretty confident it can manage its debt safely.

We also note that FARO Technologies improved its EBIT from a last year's loss to a positive US$10m. 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 FARO Technologies 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. FARO Technologies 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. Happily for any shareholders, FARO Technologies actually produced more free cash flow than EBIT over the last year. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

Although FARO Technologies'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$18.8m. And it impressed us with free cash flow of US$20m, being 194% of its EBIT. So we don't have any problem with FARO Technologies's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example FARO Technologies has 4 warning signs (and 1 which is concerning) we think you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.