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.’ So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies ShockWave Medical, Inc. (NASDAQ:SWAV) makes use of debt. But the more important question is: how much risk is that debt creating?
What Risk Does Debt Bring?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company’s use of debt, we first look at cash and debt together.
See our latest analysis for ShockWave Medical
What Is ShockWave Medical’s Debt?
You can click the graphic below for the historical numbers, but it shows that ShockWave Medical had US$14.9m of debt in September 2022, down from US$17.0m, one year before. However, it does have US$250.7m in cash offsetting this, leading to net cash of US$235.8m.
How Strong Is ShockWave Medical’s Balance Sheet?
We can see from the most recent balance sheet that ShockWave Medical had liabilities of US$54.2m falling due within a year, and liabilities of US$65.7m due beyond that. On the other hand, it had cash of US$250.7m and US$64.2m worth of receivables due within a year. So it can boast US$195.0m more liquid assets than total liabilities.
This short term liquidity is a sign that ShockWave Medical could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, ShockWave Medical boasts net cash, so it’s fair to say it does not have a heavy debt load!
Although ShockWave Medical made a loss at the EBIT level, last year, it was also good to see that it generated US$96m in EBIT over the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine ShockWave Medical’s ability to maintain a healthy balance sheet going forward. 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. While ShockWave Medical 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 year, ShockWave Medical produced sturdy free cash flow equating to 72% of its EBIT, about what we’d expect. This cold hard cash means it can reduce its debt when it wants to.
Summing Up
While it is always sensible to investigate a company’s debt, in this case ShockWave Medical has US$235.8m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of US$69m, being 72% of its EBIT. So we don’t think ShockWave Medical’s use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet – far from it. Case in point: We’ve spotted 2 warning signs for ShockWave Medical you should be aware of, and 1 of them is significant.
Of course, if you’re the type of investor who prefers buying stocks without the burden of debt, then don’t hesitate to discover our exclusive list of net cash growth stocks, today.
What are the risks and opportunities for ShockWave Medical?
ShockWave Medical, Inc., a medical device company, engages in developing and commercializing intravascular lithotripsy technology for the treatment of calcified plaque in patients with peripheral vascular, coronary vascular, and heart valve diseases worldwide.
Rewards
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Trading at 18.1% below our estimate of its fair value
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Earnings are forecast to grow 24.32% per year
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Became profitable this year
Risks
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High level of non-cash earnings
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Shareholders have been diluted in the past year
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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.
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