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The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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 note that Copart, Inc. (NASDAQ:CPRT) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.
See our latest analysis for Copart
What Is Copart's Net Debt?
The chart below, which you can click on for greater detail, shows that Copart had US$401.2m in debt in July 2019; about the same as the year before. However, because it has a cash reserve of US$186.3m, its net debt is less, at about US$214.9m.
How Strong Is Copart's Balance Sheet?
According to the last reported balance sheet, Copart had liabilities of US$282.0m due within 12 months, and liabilities of US$487.2m due beyond 12 months. Offsetting this, it had US$186.3m in cash and US$106.0m in receivables that were due within 12 months. So its liabilities total US$477.0m more than the combination of its cash and short-term receivables.
Since publicly traded Copart shares are worth a very impressive total of US$18.9b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. But either way, Copart has virtually no net debt, so it's fair to say it does not have a heavy debt load!
We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).