Does JM Smucker (NYSE: SJM) have a healthy track record?

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Legendary fund manager Li Lu (whom Charlie Munger supported) once said, “The biggest risk in investing is not price volatility, but whether you will suffer a permanent loss of capital. When we think about the risk level of a business, we always like to look at its use of debt because debt overload can lead to bankruptcy. Like many other companies JM Smucker Company (NYSE: SJM) uses debt. But should shareholders be concerned about its use of debt?

When is debt dangerous?

Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, it exists at their mercy. An integral part of capitalism is the process of “creative destruction” where bankrupt companies are ruthlessly liquidated by their bankers. However, a more common (but still costly) situation is where a company has to issue shares at bargain prices, constantly diluting shareholders, just to strengthen its balance sheet. Of course, many companies use debt to finance growth without any negative consequences. The first step in examining a company’s debt levels is to consider its cash flow and debt together.

Check out our latest analysis for JM Smucker

What is JM Smucker’s net debt?

You can click on the chart below for historical numbers, but it shows JM Smucker had $ 4.84 billion in debt in January 2021, down from $ 5.56 billion a year earlier. On the other hand, it has US $ 501.5 million in cash, which leads to net debt of around US $ 4.34 billion.

NYSE: SJM Debt to Equity History May 24, 2021

A look at JM Smucker’s responsibilities

Zooming in on the latest balance sheet data, we can see that JM Smucker had $ 2.53 billion in liabilities due within 12 months and $ 5.69 billion in liabilities beyond. In return for these obligations, it had cash of US $ 501.5 million as well as receivables valued at US $ 604.9 million due within 12 months. Thus, its liabilities outweigh the sum of its cash and its (short-term) receivables of US $ 7.11 billion.

JM Smucker has a very large market cap of US $ 14.7 billion, so he could most likely raise cash to improve his balance sheet if the need arose. But it is clear that we absolutely need to take a close look at whether it can manage its debt without dilution.

We measure a company’s indebtedness relative to its earning power by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating the ease with which its earnings before interest and taxes (EBIT ) cover his interests. costs (interest coverage). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt over EBITDA) and the actual interest charges associated with that debt (with its interest coverage ratio).

With a debt to EBITDA ratio of 2.3, JM Smucker uses debt smartly but responsibly. And the fact that her last twelve months of EBIT was 8.2 times her interest expense ties in with that theme. We note that JM Smucker increased its EBIT by 23% last year, which should make it easier to repay debt in the future. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future profits, more than anything, that will determine JM Smucker’s ability to maintain a healthy balance sheet going forward. So if you are focused on the future you can check out this free report showing analysts’ earnings forecasts.

Finally, a business can only pay off its debts with cash, not book profits. We must therefore clearly consider whether this EBIT leads to a corresponding free cash flow. Over the past three years, JM Smucker has recorded free cash flow of 78% of its EBIT, which is about normal given that free cash flow excludes interest and taxes. This hard, cold cash flow means he can reduce his debt whenever he wants.

Our point of view

Fortunately, JM Smucker’s impressive conversion of EBIT to free cash flow means he has the upper hand over his debt. But, on a darker note, we’re a little concerned with its total liability level. Considering all of this data, it seems to us that JM Smucker is taking a pretty sane approach to debt. While this carries some risk, it can also improve returns for shareholders. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks lie on the balance sheet – far from it. We have identified 2 warning signs with JM Smucker, and understanding them should be part of your investment process.

Of course, if you are the type of investor who prefers to buy stocks without the burden of debt, then feel free to check out our exclusive list of cash net growth stocks, today.

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This Simply Wall St article is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take into account your goals or your financial situation. We aim to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative information. Simply Wall St has no position in any of the stocks mentioned.
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