Rather than worrying about stock volatility, Howard Marks said, “The potential for permanent loss is the risk that worries me…and every real investor I know worries.” I am.” When I think about how risky a company is, I always like to look to the use of debt as too much debt can lead to bankruptcy. Federal Signal Corporation (NYSE:FSS) is in debt. But should shareholders worry about the use of debt?
Why Debt Brings Risk?
Debt supports a business until it struggles to pay it back with either new capital or free cash flow. It is a process of “creative destruction”. Although less common, we often see debt companies permanently diluting their shareholders. The advantage of debt, of course, is that it often represents cheap capital, especially when it replaces the company’s dilution with the ability to reinvest at a high rate of return. think.
See the latest analysis from Federal Signal.
What is Federal Signals Net Debt?
The image below, which you can click for more information, shows that in September 2022, Federal Signal had a debt of US$329.5 million. But he also had US$35.5 million in cash, so his net debt is US$294 million.
How strong is Federal Signal’s balance sheet?
The latest balance sheet shows that Federal Signal has US$181.4 million in debt, which is due within one year and US$455.7 million in debt has been paid since then. On the other hand, he had US$35.5 million in cash and accounts receivable worth US$170 million due within one year. As such, the company’s debt is US$431.6 million more than its combined cash and short-term debt.
Given Federal Signal’s $2.79 billion market capitalization, it’s hard to imagine these debts being a major threat. However, there is enough debt to strongly encourage shareholders to continue to monitor their balance sheet.
By dividing net debt by earnings before interest, taxes, depreciation and amortization (EBITDA), and calculating how easily earnings before interest and taxes (EBIT) can cover earnings, a company’s Measure your debt load. Expenses (interest cover). The advantage of this approach is that it takes into account both the absolute amount of debt (net debt to EBITDA) and the actual interest expense associated with that debt (its interest coverage ratio).
Federal Signal’s modest net debt to EBITDA ratio of 1.5 suggests that it is cautious when it comes to debt. And the strong interest rate coverage of 19.9x makes us even more comfortable.The good news is that Federal Signal increased his EBIT by 2.5% over his 12 months. This should ease concerns about debt repayment. The balance sheet is clearly an area to focus on when analyzing liabilities. But future earnings will determine, more than anything else, whether Federal Signal can maintain a healthy balance sheet going forward. So, if you want to know what the experts think, this free report on analyst profit forecasts might be of interest to you.
But a final consideration is also important. Because a company cannot pay its debts with paper profits. I need cash. So we’re always looking at how much of that EBIT translates into free cash flow. Looking at the last three years, Federal Signal posted free cash flow of 45% of his EBIT, which is lower than expected. When it comes to paying off debt, it’s not great.
our view
The good news is that Federal Signal has demonstrated its ability to cover its interest costs with EBIT, delighting us like a fluffy puppy does a toddler. We also considered the net debt to EBITDA to be positive. When you look at all the aforementioned factors together, you can see that Federal Signal can handle debt pretty effortlessly. On the positive side, this leverage can enhance shareholder returns, but the potential downside is the high risk of loss, which makes it worth watching the balance sheet. The table is obviously the starting point. However, not all investment risks are on the balance sheet, far from it. To do so, you should be aware of the following: 1 warning sign I found it on Federal Signal.
After all, it is often better to focus on companies with no net debt. Access a special list of such companies (all with a track record of profit growth). It’s free.
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This article by Simply Wall St is general in nature. We provide comments based on historical data and analyst projections using only unbiased methodologies and our articles are not intended as financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. We aim to deliver long-term focused analysis based on fundamental data. Please note that our analysis may not take into account the latest price-sensitive company announcements or qualitative materials. Is not …