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, FormFactor, Inc. (NASDAQ:FORM) does carry debt. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
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. If things get really bad, the lenders can take control of the business. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is FormFactor's Net Debt?
You can click the graphic below for the historical numbers, but it shows that FormFactor had US$13.9m of debt in June 2024, down from US$14.9m, one year before. However, it does have US$357.6m in cash offsetting this, leading to net cash of US$343.8m.
How Healthy Is FormFactor's Balance Sheet?
According to the last reported balance sheet, FormFactor had liabilities of US$139.0m due within 12 months, and liabilities of US$69.3m due beyond 12 months. On the other hand, it had cash of US$357.6m and US$118.4m worth of receivables due within a year. So it actually has US$267.7m more liquid assets than total liabilities.
This surplus suggests that FormFactor has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, FormFactor boasts net cash, so it's fair to say it does not have a heavy debt load!
Better yet, FormFactor grew its EBIT by 1,106% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if FormFactor 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.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. While FormFactor 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. During the last three years, FormFactor generated free cash flow amounting to a very robust 91% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.
Summing Up
While it is always sensible to investigate a company's debt, in this case FormFactor has US$343.8m in net cash and a decent-looking balance sheet. The cherry on top was that in converted 91% of that EBIT to free cash flow, bringing in US$47m. So is FormFactor's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - FormFactor has 2 warning signs we think you should be aware of.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.