These 4 Measures Indicate That CTS (NYSE:CTS) Is Using Debt Safely

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 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. We note that CTS Corporation (NYSE:CTS) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for CTS

What Is CTS's Debt?

As you can see below, at the end of June 2022, CTS had US$91.0m of debt, up from US$51.6m a year ago. Click the image for more detail. However, its balance sheet shows it holds US$99.4m in cash, so it actually has US$8.39m net cash.

How Healthy Is CTS' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that CTS had liabilities of US$115.4m due within 12 months and liabilities of US$128.3m due beyond that. On the other hand, it had cash of US$99.4m and US$98.9m worth of receivables due within a year. So its liabilities total US$45.3m more than the combination of its cash and short-term receivables.

Given CTS has a market capitalization of US$1.41b, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, CTS boasts net cash, so it's fair to say it does not have a heavy debt load!

Even more impressive was the fact that CTS grew its EBIT by 125% over twelve months. That boost will make it even easier to pay down debt going forward. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if CTS 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While CTS 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, CTS recorded free cash flow worth a fulsome 98% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing Up

We could understand if investors are concerned about CTS's liabilities, but we can be reassured by the fact it has has net cash of US$8.39m. And it impressed us with free cash flow of US$64m, being 98% of its EBIT. So we don't think CTS's use of debt is risky. We'd be very excited to see if CTS insiders have been snapping up shares. If you are too, then click on this link right now to take a (free) peek at our list of reported insider transactions.

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.