Yahoo Finance We Think Costco Wholesale (NASDAQ:COST) Can Manage Its Debt With Ease
Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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, Costco Wholesale Corporation (NASDAQ:COST) does carry debt. But is this debt a concern to shareholders?
When Is Debt A Problem?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.
View our latest analysis for Costco Wholesale
How Much Debt Does Costco Wholesale Carry?
You can click the graphic below for the historical numbers, but it shows that Costco Wholesale had US$6.58b of debt in May 2022, down from US$7.59b, one year before. But it also has US$11.8b in cash to offset that, meaning it has US$5.25b net cash.
A Look At Costco Wholesale's Liabilities
Zooming in on the latest balance sheet data, we can see that Costco Wholesale had liabilities of US$31.8b due within 12 months and liabilities of US$11.5b due beyond that. Offsetting these obligations, it had cash of US$11.8b as well as receivables valued at US$1.99b due within 12 months. So it has liabilities totalling US$29.5b more than its cash and near-term receivables, combined.
Of course, Costco Wholesale has a titanic market capitalization of US$215.2b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, Costco Wholesale also has more cash than debt, so we're pretty confident it can manage its debt safely.
Also positive, Costco Wholesale grew its EBIT by 29% in the last year, and that should make it easier to pay down debt, going forward. 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 Costco Wholesale'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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Costco Wholesale may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the most recent three years, Costco Wholesale recorded free cash flow worth 77% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.
Summing up
Although Costco Wholesale's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of US$5.25b. And it impressed us with its EBIT growth of 29% over the last year. So is Costco Wholesale's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for Costco Wholesale you should be aware of.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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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.
