Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. Importantly, Snap-on Incorporated (NYSE:SNA) does carry debt. But is this debt a concern to shareholders?
When Is Debt A Problem?
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. When we think about a company's use of debt, we first look at cash and debt together.
What Is Snap-on's Net Debt?
The chart below, which you can click on for greater detail, shows that Snap-on had US$1.20b in debt in September 2024; about the same as the year before. However, it does have US$1.31b in cash offsetting this, leading to net cash of US$113.6m.
How Strong Is Snap-on's Balance Sheet?
The latest balance sheet data shows that Snap-on had liabilities of US$956.4m due within a year, and liabilities of US$1.50b falling due after that. Offsetting these obligations, it had cash of US$1.31b as well as receivables valued at US$800.5m due within 12 months. So it has liabilities totalling US$341.9m more than its cash and near-term receivables, combined.
This state of affairs indicates that Snap-on's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the US$17.1b company is short on cash, but still worth keeping an eye on the balance sheet. While it does have liabilities worth noting, Snap-on also has more cash than debt, so we're pretty confident it can manage its debt safely.
The good news is that Snap-on has increased its EBIT by 4.4% over twelve months, which should ease any concerns about debt repayment. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Snap-on can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Snap-on may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, Snap-on produced sturdy free cash flow equating to 69% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.
Summing Up
We could understand if investors are concerned about Snap-on's liabilities, but we can be reassured by the fact it has has net cash of US$113.6m. The cherry on top was that in converted 69% of that EBIT to free cash flow, bringing in US$1.1b. So we don't think Snap-on's use of debt is risky. 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 instance, we've identified 1 warning sign for Snap-on that you should be aware of.
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our 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 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.
