Here’s why Blackbaud (NASDAQ: BLKB) has a heavy debt burden
Legendary fund manager Li Lu (whom 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 is only natural to consider a company’s balance sheet when considering how risky it is, as debt is often involved when a business collapses. We can see that Blackbaud, Inc. (NASDAQ: BLKB) uses debt in its business. But the real question is whether this debt makes the business risky.
Why Does Debt Bring Risk?
Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, constantly diluting shareholders, just to strengthen its balance sheet. 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 look at debt levels, we first look at cash and debt levels, together.
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What is Blackbaud’s debt?
As you can see below, Blackbaud had $ 527.4 million in debt, as of September 2021, which is roughly the same as the year before. You can click on the graph for more details. However, given that it has a cash reserve of US $ 27.6 million, its net debt is less, at approximately US $ 499.8 million.
How strong is Blackbaud’s balance sheet?
We can see from the most recent balance sheet that Blackbaud had liabilities of US $ 660.1 million maturing within one year and liabilities of US $ 598.0 million maturing beyond that. On the other hand, he had US $ 27.6 million in cash and US $ 105.9 million in receivables due within one year. As a result, its liabilities exceed the sum of its cash and (short-term) receivables by US $ 1.12 billion.
This deficit is not that big of a deal as Blackbaud is worth US $ 3.83 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 earnings before interest and taxes (EBIT) covers its interest expense (or its coverage of interest, for short). The advantage of this approach is that we take into account both the absolute amount of debt (with net debt versus EBITDA) and the actual interest charges associated with this debt (with its coverage rate). interests).
Blackbaud shareholders face the double whammy of a high net debt to EBITDA ratio (7.0) and fairly low interest coverage, since EBIT is only 1.0 times the expenses of ‘interests. The debt burden here is considerable. Worse yet, Blackbaud has seen its EBIT reach 57% over the past 12 months. If profits continue to follow this path, it will be more difficult to pay off this debt than to convince us to run a marathon in the rain. When analyzing debt levels, the balance sheet is the obvious place to start. But ultimately, the company’s future profitability will decide whether Blackbaud can strengthen its balance sheet over time. So, if you want to see what the professionals think, you might find this free Analyst Profit Forecast report interesting.
Finally, while the IRS may love accounting profits, lenders only accept hard cash. It is therefore worth checking to what extent this EBIT is supported by free cash flow. Fortunately for all shareholders, Blackbaud has actually generated more free cash flow than EBIT over the past three years. There is nothing better than cash flow to stay in the good graces of your lenders.
Our point of view
The EBIT growth rate and Blackbaud’s interest coverage certainly weighs on this, in our view. But the good news is that it looks like it can easily convert EBIT into free cash flow. Taking the above factors together, we believe that Blackbaud’s debt poses certain risks to the business. While this debt may increase returns, we believe the company now has sufficient leverage. 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. For example – Blackbaud has 1 warning sign we think you should 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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