Is CSX (NASDAQ:CSX) Using Too Much Debt?

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.' 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 CSX Corporation (NASDAQ:CSX) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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 think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for CSX

How Much Debt Does CSX Carry?

You can click the graphic below for the historical numbers, but it shows that as of June 2023 CSX had US$18.0b of debt, an increase on US$16.3b, over one year. However, it also had US$1.03b in cash, and so its net debt is US$17.0b.

How Strong Is CSX's Balance Sheet?

According to the last reported balance sheet, CSX had liabilities of US$2.06b due within 12 months, and liabilities of US$26.9b due beyond 12 months. On the other hand, it had cash of US$1.03b and US$1.33b worth of receivables due within a year. So it has liabilities totalling US$26.6b more than its cash and near-term receivables, combined.

This deficit isn't so bad because CSX is worth a massive US$61.3b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

With a debt to EBITDA ratio of 2.3, CSX uses debt artfully but responsibly. And the alluring interest cover (EBIT of 7.9 times interest expense) certainly does not do anything to dispel this impression. We saw CSX grow its EBIT by 5.6% in the last twelve months. Whilst that hardly knocks our socks off it is a positive when it comes to 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 CSX 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, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, CSX produced sturdy free cash flow equating to 58% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

CSX's interest cover was a real positive on this analysis, as was its conversion of EBIT to free cash flow. On the other hand, its level of total liabilities makes us a little less comfortable about its debt. When we consider all the elements mentioned above, it seems to us that CSX is managing its debt quite well. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - CSX has 1 warning sign we think you should be aware of.

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.