David Iben said it well when he said: “Volatility is not a risk that interests us. What matters to us is to avoid the permanent loss of capital. So it seems smart money knows that debt – which is usually involved in bankruptcies – is a very important factor when you’re assessing a company’s risk. Like many other companies QUALCOMM Incorporated (NASDAQ:QCOM) uses debt. But the more important question is: what risk does this debt create?
Why is debt risky?
Debt helps a business until the business struggles to pay it back, 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 frequent (but still costly) event is when a company has to issue shares at bargain prices, permanently diluting shareholders, just to shore up its balance sheet. That said, the most common situation is when a company manages its debt reasonably well – and to its own benefit. When we look at debt levels, we first consider cash and debt levels, together.
See our latest analysis for QUALCOMM
What is QUALCOMM’s debt?
As you can see below, QUALCOMM had $15.7 billion in debt as of March 2022, roughly the same as the previous year. You can click on the graph for more details. On the other hand, it has $11.5 billion in cash, resulting in a net debt of around $4.13 billion.
How healthy is QUALCOMM’s balance sheet?
Zooming in on the latest balance sheet data, we can see that QUALCOMM had liabilities of US$13.4 billion due within 12 months and liabilities of US$17.5 billion due beyond. On the other hand, it had 11.5 billion dollars in cash and 4.08 billion dollars in receivables at less than one year. It therefore has liabilities totaling $15.3 billion more than its cash and short-term receivables, combined.
Given that publicly traded QUALCOMM shares are worth a very impressive total of US$158.9 billion, it seems unlikely that this level of liability is a major threat. That said, it is clear that we must continue to monitor its record, lest it deteriorate.
We use two main ratios to inform us about debt to earnings levels. The first is net debt divided by earnings before interest, taxes, depreciation and amortization (EBITDA), while the second is how often its earnings before interest and taxes (EBIT) covers its interest expense (or its interests, for short). The advantage of this approach is that we consider both the absolute amount of debt (with net debt to EBITDA) and the actual interest expense associated with that debt (with its interest coverage ratio ).
QUALCOMM’s net debt is only 0.29 times its EBITDA. And its EBIT covers its interest charges 30.0 times more. So we’re pretty relaxed about his super-conservative use of debt. On top of that, QUALCOMM has grown its EBIT by 44% over the last twelve months, and this growth will make it easier to manage its debt. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future earnings, more than anything, that will determine QUALCOMM’s ability to maintain a healthy balance sheet in the future. So if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.
Finally, while the taxman may love accounting profits, lenders only accept cash. We therefore always check how much of this EBIT is converted into free cash flow. Over the past three years, QUALCOMM has recorded free cash flow of 74% of its EBIT, which is about normal, given that free cash flow excludes interest and taxes. This cold hard cash allows him to reduce his debt whenever he wants.
Our point of view
Fortunately, QUALCOMM’s impressive interest coverage means it has the upper hand on its debt. And the good news does not stop there, since its EBIT growth rate also confirms this impression! Overall, we don’t think QUALCOMM is taking bad risks, as its leverage looks modest. The balance sheet therefore seems rather healthy to us. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks reside on the balance sheet, far from it. We have identified 2 warning signs with QUALCOMM (at least 1 which is a little unpleasant), and understanding them should be part of your investment process.
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.