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.’ It’s only natural to consider a company’s balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Accenture plc (NYSE:ACN) does carry debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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 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 think about a company’s use of debt, we first look at cash and debt together.

What Is Accenture’s Net Debt?

As you can see below, at the end of February 2021, Accenture had US$68.4m of debt, up from US$19.9m a year ago. Click the image for more detail. However, it does have US$9.17b in cash offsetting this, leading to net cash of US$9.10b.

A Look At Accenture’s Liabilities

We can see from the most recent balance sheet that Accenture had liabilities of US$14.1b falling due within a year, and liabilities of US$7.05b due beyond that. Offsetting this, it had US$9.17b in cash and US$8.73b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$3.25b.

Having regard to Accenture’s size, it seems that its liquid assets are well balanced with its total liabilities. So while it’s hard to imagine that the US$181.6b company is struggling for cash, we still think it’s worth monitoring its balance sheet. While it does have liabilities worth noting, Accenture also has more cash than debt, so we’re pretty confident it can manage its debt safely.

Fortunately, Accenture grew its EBIT by 3.9% in the last year, making that debt load look even more manageable. There’s no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Accenture’s ability to maintain a healthy balance sheet going forward.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Accenture 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. Happily for any shareholders, Accenture actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While it is always sensible to look at a company’s total liabilities, it is very reassuring that Accenture has US$9.10b in net cash. The cherry on top was that in converted 110% of that EBIT to free cash flow, bringing in US$9.5b. So we don’t think Accenture’s use of debt is risky. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all.