These 4 Measures Indicate That Knowles (NYSE:KN) Is Using Debt Reasonably Well

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Knowles Corporation (NYSE:KN) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Knowles

How Much Debt Does Knowles Carry?

The image below, which you can click on for greater detail, shows that Knowles had debt of US$45.0m at the end of September 2023, a reduction from US$78.0m over a year. However, it does have US$75.1m in cash offsetting this, leading to net cash of US$30.1m.

A Look At Knowles' Liabilities

We can see from the most recent balance sheet that Knowles had liabilities of US$107.0m falling due within a year, and liabilities of US$81.9m due beyond that. Offsetting these obligations, it had cash of US$75.1m as well as receivables valued at US$119.0m due within 12 months. So it can boast US$5.20m more liquid assets than total liabilities.

This state of affairs indicates that Knowles' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the US$1.45b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Knowles has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Knowles's saving grace is its low debt levels, because its EBIT has tanked 51% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. 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 Knowles 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. Knowles 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 last three years, Knowles actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While it is always sensible to investigate a company's debt, in this case Knowles has US$30.1m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of US$90m, being 106% of its EBIT. So we don't have any problem with Knowles's use of debt. We'd be motivated to research the stock further if we found out that Knowles insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.