We think SMART Global Holdings (NASDAQ:SGH) can manage debt with ease

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett said “volatility is far from synonymous with risk.” It’s natural to consider a company’s balance sheet when looking at its riskiness, as debt is often involved when a company fails. We notice that SMART Global Holdings, Inc. (NASDAQ:SGH) has debt on its balance sheet. But the more important question is: what risk does this debt create?

When is debt dangerous?

Debt helps a business until the business struggles to pay it back, either with new capital or with free cash flow. In the worst case, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still costly) situation is when a company has to dilute shareholders at a cheap share price just to keep debt under control. By replacing dilution, however, debt can be a great tool for companies that need capital to invest in growth at high rates of return. The first step when considering a company’s debt levels is to consider its cash and debt together.

How much debt does SMART Global Holdings have?

The image below, which you can click on for more details, shows that as of November 2021, SMART Global Holdings had $377.0 million in debt, up from $197.6 million in one year. However, he also had $233.1 million in cash, so his net debt is $143.9 million.

NasdaqGS: SGH Debt to Equity History January 17, 2022

A look at the liabilities of SMART Global Holdings

The latest balance sheet data shows that SMART Global Holdings had liabilities of $535.1 million due within the year, and liabilities of $456.3 million due thereafter. On the other hand, it had $233.1 million in cash and $361.2 million in receivables within one year. Thus, its liabilities outweigh the sum of its cash and receivables (current) by $397.2 million.

This shortfall is not that bad as SMART Global Holdings is worth US$1.64 billion and therefore could probably raise enough capital to shore up its balance sheet, should the need arise. However, it is always worth taking a close look at your ability to repay debt.

In order to assess a company’s debt relative to its earnings, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its earnings before interest and taxes (EBIT) divided by its expenses. interest (its interest coverage). 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 0.71 times EBITDA, SMART Global Holdings is arguably quite conservative. And this view is supported by strong interest coverage, with EBIT amounting to 7.5 times interest expense over the past year. Even better, SMART Global Holdings increased its EBIT by 202% last year, which is an impressive improvement. This boost will make it even easier to pay off debt in the future. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future earnings, more than anything, that will determine SMART Global Holdings’ ability to maintain a healthy balance sheet in the future. So if you want to see what the pros think, you might find this free analyst earnings forecast report Be interesting.

But our last consideration is also important, because a company cannot pay off its debts with paper profits; he needs cash. So the logical step is to look at what proportion of that EBIT is actual free cash flow. Over the past three years, SMART Global Holdings has actually produced more free cash flow than EBIT. This kind of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our point of view

SMART Global Holdings’ EBIT to free cash flow conversion suggests it can manage its debt as easily as Cristiano Ronaldo could score a goal against an under-14 goalkeeper. And this is only the beginning of good news since its EBIT growth rate is also very encouraging. Overall, we think SMART Global Holdings’ use of debt seems entirely reasonable and we’re not worried about that. After all, reasonable leverage can increase return on equity. When analyzing debt levels, the balance sheet is the obvious starting point. But at the end of the day, every business can contain risks that exist outside of the balance sheet. Be aware that SMART Global Holdings shows 5 warning signs in our investment analysis , you should know…

In the end, it’s often best to focus on companies that aren’t in debt. You can access our special list of these companies (all with a track record of earnings growth). It’s free.

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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.

The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of Nasdaq, Inc.


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John A. Bogar