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David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. Importantly, SPX FLOW, Inc. (NYSE:FLOW) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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, 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.
See our latest analysis for SPX FLOW
What Is SPX FLOW's Debt?
As you can see below, SPX FLOW had US$731.0m of debt at June 2019, down from US$839.6m a year prior. However, it does have US$186.7m in cash offsetting this, leading to net debt of about US$544.3m.
How Strong Is SPX FLOW's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that SPX FLOW had liabilities of US$657.0m due within 12 months and liabilities of US$879.1m due beyond that. Offsetting this, it had US$186.7m in cash and US$288.5m in receivables that were due within 12 months. So it has liabilities totalling US$1.06b more than its cash and near-term receivables, combined.
This deficit is considerable relative to its market capitalization of US$1.65b, so it does suggest shareholders should keep an eye on SPX FLOW's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.
SPX FLOW's net debt is sitting at a very reasonable 2.1 times its EBITDA, while its EBIT covered its interest expense just 4.5 times last year. While that doesn't worry us too much, it does suggest the interest payments are somewhat of a burden. Importantly, SPX FLOW grew its EBIT by 48% 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 SPX FLOW 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.