Warren Buffett famously said, ‘Volatility is far from synonymous with risk.’ 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. We can see that Broadridge Financial Solutions, Inc. (NYSE:BR) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
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. Part and parcel of capitalism is the process of ‘creative destruction’ where failed businesses are mercilessly liquidated by their bankers. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
How Much Debt Does Broadridge Financial Solutions Carry?
You can click the graphic below for the historical numbers, but it shows that Broadridge Financial Solutions had US$1.74b of debt in March 2021, down from US$2.08b, one year before. However, it does have US$356.8m in cash offsetting this, leading to net debt of about US$1.38b.
How Healthy Is Broadridge Financial Solutions’ Balance Sheet?
We can see from the most recent balance sheet that Broadridge Financial Solutions had liabilities of US$1.00b falling due within a year, and liabilities of US$2.59b due beyond that. Offsetting this, it had US$356.8m in cash and US$871.0m in receivables that were due within 12 months. So it has liabilities totalling US$2.37b more than its cash and near-term receivables, combined.
Since publicly traded Broadridge Financial Solutions shares are worth a very impressive total of US$18.7b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.
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.
Broadridge Financial Solutions’s net debt is only 1.4 times its EBITDA. And its EBIT covers its interest expense a whopping 13.1 times over. So we’re pretty relaxed about its super-conservative use of debt. Another good sign is that Broadridge Financial Solutions has been able to increase its EBIT by 23% in twelve months, making it easier to pay down 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 Broadridge Financial Solutions 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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we always check how much of that EBIT is translated into free cash flow. During the last three years, Broadridge Financial Solutions generated free cash flow amounting to a very robust 80% of its EBIT, more than we’d expect. That positions it well to pay down debt if desirable to do so.
Happily, Broadridge Financial Solutions’s impressive interest cover implies it has the upper hand on its debt. And that’s just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. Overall, we don’t think Broadridge Financial Solutions is taking any bad risks, as its debt load seems modest. So we’re not worried about the use of a little leverage on the balance sheet. There’s no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet.