Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that ‘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. As with many other companies Autodesk, Inc. (NASDAQ:ADSK) makes use of debt. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well – and to its own advantage. The first step when considering a company’s debt levels is to consider its cash and debt together.
What Is Autodesk’s Debt?
As you can see below, Autodesk had US$1.64b of debt at January 2021, down from US$2.08b a year prior. However, its balance sheet shows it holds US$1.86b in cash, so it actually has US$220.0m net cash.
How Healthy Is Autodesk’s Balance Sheet?
We can see from the most recent balance sheet that Autodesk had liabilities of US$3.25b falling due within a year, and liabilities of US$3.06b due beyond that. On the other hand, it had cash of US$1.86b and US$643.1m worth of receivables due within a year. So its liabilities total US$3.81b more than the combination of its cash and short-term receivables.
Given Autodesk has a humongous market capitalization of US$62.0b, it’s hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Autodesk boasts net cash, so it’s fair to say it does not have a heavy debt load!
In addition to that, we’re happy to report that Autodesk has boosted its EBIT by 73%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Autodesk’s ability to maintain a healthy balance sheet going forward.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Autodesk 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, Autodesk 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
We could understand if investors are concerned about Autodesk’s liabilities, but we can be reassured by the fact it has has net cash of US$220.0m. The cherry on top was that in converted 285% of that EBIT to free cash flow, bringing in US$1.3b. So we don’t think Autodesk’s use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet.
