Fabrinet (NYSE:FN) Has A Rock Solid 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. We can see that Fabrinet (NYSE:FN) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Fabrinet

What Is Fabrinet's Net Debt?

The image below, which you can click on for greater detail, shows that Fabrinet had debt of US$22.4m at the end of September 2022, a reduction from US$36.5m over a year. But on the other hand it also has US$499.8m in cash, leading to a US$477.4m net cash position.

A Look At Fabrinet's Liabilities

Zooming in on the latest balance sheet data, we can see that Fabrinet had liabilities of US$526.4m due within 12 months and liabilities of US$35.7m due beyond that. Offsetting this, it had US$499.8m in cash and US$476.6m in receivables that were due within 12 months. So it actually has US$414.3m more liquid assets than total liabilities.

This short term liquidity is a sign that Fabrinet could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Fabrinet has more cash than debt is arguably a good indication that it can manage its debt safely.

On top of that, Fabrinet grew its EBIT by 39% over the last twelve months, and that growth will make it easier to handle its debt. 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 Fabrinet can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Fabrinet 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 most recent three years, Fabrinet recorded free cash flow worth 52% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Fabrinet has net cash of US$477.4m, as well as more liquid assets than liabilities. And we liked the look of last year's 39% year-on-year EBIT growth. So is Fabrinet's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Fabrinet you should know about.

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.