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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, EPAM Systems, Inc. (NYSE:EPAM) does carry debt. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.
What Is EPAM Systems's Debt?
As you can see below, EPAM Systems had US$25.0m of debt, at March 2021, which is about the same as the year before. You can click the chart for greater detail. But it also has US$1.37b in cash to offset that, meaning it has US$1.35b net cash.NYSE:EPAM Debt to Equity History July 31st 2021
How Strong Is EPAM Systems' Balance Sheet?
We can see from the most recent balance sheet that EPAM Systems had liabilities of US$463.8m falling due within a year, and liabilities of US$252.8m due beyond that. Offsetting these obligations, it had cash of US$1.37b as well as receivables valued at US$585.0m due within 12 months. So it actually has US$1.24b more liquid assets than total liabilities.
This short term liquidity is a sign that EPAM Systems could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, EPAM Systems boasts net cash, so it's fair to say it does not have a heavy debt load!
Another good sign is that EPAM Systems has been able to increase its EBIT by 23% in twelve months, making it easier to pay down debt. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine EPAM Systems's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While EPAM Systems 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 three years, EPAM Systems generated free cash flow amounting to a very robust 94% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.
While we empathize with investors who find debt concerning, you should keep in mind that EPAM Systems has net cash of US$1.35b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of US$443m, being 94% of its EBIT. So is EPAM Systems's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 1 warning sign with EPAM Systems , and understanding them should be part of your investment process.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
This article by Simply Wall St is general in nature. 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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