Is NetScout Systems (NASDAQ:NTCT) Using Too Much Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that NetScout Systems, Inc. (NASDAQ:NTCT) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for NetScout Systems

What Is NetScout Systems's Debt?

As you can see below, NetScout Systems had US$100.0m of debt at June 2023, down from US$200.0m a year prior. But on the other hand it also has US$384.6m in cash, leading to a US$284.6m net cash position.

How Strong Is NetScout Systems' Balance Sheet?

According to the last reported balance sheet, NetScout Systems had liabilities of US$383.2m due within 12 months, and liabilities of US$316.2m due beyond 12 months. Offsetting these obligations, it had cash of US$384.6m as well as receivables valued at US$108.3m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$206.5m.

Given NetScout Systems has a market capitalization of US$2.04b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, NetScout Systems boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that NetScout Systems has boosted its EBIT by 56%, thus reducing the spectre of future debt repayments. 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 NetScout Systems'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. While NetScout Systems has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, NetScout Systems 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 NetScout Systems'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$284.6m. And it impressed us with free cash flow of US$146m, being 321% of its EBIT. So we don't think NetScout Systems's use of debt is risky. Over time, share prices tend to follow earnings per share, so if you're interested in NetScout Systems, you may well want to click here to check an interactive graph of its earnings per share history.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.