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Legendary fund manager Li Lu (who Charlie Munger supported) once said, “The biggest risk in investing is not price volatility, but the possibility that you will suffer a permanent loss of capital. It’s only natural to consider a company’s balance sheet when looking at its level of risk, as debt is often involved when a business collapses. We note that The inter-public group of companies, Inc. (NYSE: IPG) has debt on its balance sheet. But does this debt concern shareholders?
When is debt dangerous?
Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, then it exists at their mercy. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. While it’s not too common, we often see indebted companies continually diluting their shareholders because lenders are forcing them to raise capital at a ridiculous price. By replacing dilution, however, debt can be a very good tool for companies that need capital to invest in growth at high rates of return. When we think of a business’s use of debt, we first look at cash flow and debt together.
Check out our latest analysis for Interpublic Group of Companies
How much debt does the inter-public group of companies carry?
As you can see below, Interpublic Group of Companies had $ 3.47 billion in debt in June 2021, up from $ 3.97 billion the year before. On the other hand, it has $ 2.34 billion in cash, resulting in net debt of around $ 1.13 billion.
How strong is Interpublic Group of Companies’ balance sheet?
Latest balance sheet data shows Interpublic Group of Companies had liabilities of US $ 8.80 billion due within one year, and liabilities of US $ 5.34 billion due thereafter . In compensation for these obligations, it had cash of US $ 2.34 billion as well as receivables valued at US $ 5.94 billion due within 12 months. Its liabilities therefore total $ 5.86 billion more than the combination of its cash and short-term receivables.
This deficit is not that big as Interpublic Group of Companies is worth US $ 14.2 billion and could therefore probably raise enough capital to consolidate its balance sheet, should the need arise. But we absolutely want to keep our eyes open for indications that its debt is too risky.
We use two main ratios to inform us about the levels of debt compared to earnings. The first is net debt divided by earnings before interest, taxes, depreciation, and amortization (EBITDA), while the second is the number of times its profit before interest and taxes (EBIT) covers its interest expense (or its coverage of interest, for short). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.
With net debt of just 0.67 times EBITDA, Interpublic Group of Companies is arguably fairly cautious. And this view is underpinned by the strong interest coverage, with EBIT reaching 8.7 times last year’s interest expense. On top of that, we are happy to report that Interpublic Group of Companies has increased its EBIT by 40%, reducing the specter of future debt repayments. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future profits, more than anything, that will determine the ability of Interpublic Group of Companies to maintain a healthy balance sheet going forward. So if you are focused on the future you can check this out free report showing analysts‘ earnings forecasts.
Finally, a business can only repay its debts with hard cash, not with book profits. We must therefore clearly check whether this EBIT generates a corresponding free cash flow. Fortunately for all shareholders, Interpublic Group of Companies has actually generated more free cash flow than EBIT over the past three years. This kind of strong cash generation warms our hearts like a puppy in a bumblebee costume.
Our point of view
Interpublic Group of Companies’ conversion of EBIT to free cash flow suggests he can manage his debt as easily as Cristiano Ronaldo could score a goal against an Under-14 goalkeeper. And that’s just the start of good news as its EBIT growth rate is also very encouraging. Looking at the big picture, we think Interpublic Group of Companies’ use of debt looks very reasonable and we don’t care. While debt comes with risk, when used wisely, it can also generate a better return on equity. The balance sheet is clearly the area to focus on when analyzing debt. However, not all investment risks lie on the balance sheet – far from it. Concrete example: we have spotted 3 warning signs for Interpublic Group of Companies you must be aware.
At the end of the day, sometimes it’s easier to focus on businesses that don’t even need to go into debt. Readers can access a list of growth stocks with zero net debt 100% free, at present.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative material. Simply Wall St has no position in any of the stocks mentioned.
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