By Simply Wall St (Thu, October 21, 2021)
David Iben put it well when he said, ‘Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.’ It’s only natural to consider a company’s balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Cognizant Technology Solutions Corporation (NASDAQ:CTSH) does use debt in its business. But is this debt a concern to shareholders?
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. If things get really bad, the lenders can take control of the business. 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 examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does Cognizant Technology Solutions Carry?
As you can see below, Cognizant Technology Solutions had US$683.0m of debt at June 2021, down from US$2.46b a year prior. However, it does have US$1.85b in cash offsetting this, leading to net cash of US$1.17b.
NasdaqGS:CTSH Debt to Equity History October 21st 2021
How Healthy Is Cognizant Technology Solutions’ Balance Sheet?
The latest balance sheet data shows that Cognizant Technology Solutions had liabilities of US$3.18b due within a year, and liabilities of US$2.44b falling due after that. On the other hand, it had cash of US$1.85b and US$3.78b worth of receivables due within a year. So these liquid assets roughly match the total liabilities.
Having regard to Cognizant Technology Solutions’ size, it seems that its liquid assets are well balanced with its total liabilities. So it’s very unlikely that the US$41.6b company is short on cash, but still worth keeping an eye on the balance sheet. Succinctly put, Cognizant Technology Solutions boasts net cash, so it’s fair to say it does not have a heavy debt load!
On the other hand, Cognizant Technology Solutions saw its EBIT drop by 8.2% in the last twelve months. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. 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 Cognizant Technology Solutions’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 company can only pay off debt with cold hard cash, not accounting profits. While Cognizant Technology Solutions 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, Cognizant Technology Solutions generated free cash flow amounting to a very robust 87% of its EBIT, more than we’d expect. That puts it in a very strong position to pay down debt.