Warren Buffett famously said, ‘Volatility is far from synonymous with risk.’ So it seems the smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess how risky a company is. Importantly, ePlus inc. (NASDAQ:PLUS) does carry debt. But is this debt a concern to shareholders?
When Is Debt Dangerous?
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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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 ePlus Carry?
You can click the graphic below for the historical numbers, but it shows that ePlus had US$162.9m of debt in June 2021, down from US$274.1m, one year before. However, because it has a cash reserve of US$93.8m, its net debt is less, at about US$69.1m.
A Look At ePlus’ Liabilities
The latest balance sheet data shows that ePlus had liabilities of US$446.4m due within a year, and liabilities of US$47.4m falling due after that. Offsetting these obligations, it had cash of US$93.8m as well as receivables valued at US$499.4m due within 12 months. So it can boast US$99.4m more liquid assets than total liabilities.
This surplus suggests that ePlus has a conservative balance sheet, and could probably eliminate its debt without much difficulty.
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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).
ePlus has a low net debt to EBITDA ratio of only 0.51. And its EBIT covers its interest expense a whopping 365 times over. So we’re pretty relaxed about its super-conservative use of debt. And we also note warmly that ePlus grew its EBIT by 15% last year, making its debt load easier to handle. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if ePlus 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 the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, ePlus’s free cash flow amounted to 39% of its EBIT, less than we’d expect. That’s not great, when it comes to paying down debt.
ePlus’s interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14’s goalkeeper. And the good news does not stop there, as its net debt to EBITDA also supports that impression! Looking at the bigger picture, we think ePlus’s use of debt seems quite reasonable and we’re not concerned about it.