Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Cavco Industries, Inc. (NASDAQ:CVCO) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

What Is Cavco Industries's Net Debt?

As you can see below, Cavco Industries had US$1.73m of debt, at September 2024, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has US$388.7m in cash, leading to a US$387.0m net cash position.

A Look At Cavco Industries' Liabilities

According to the last reported balance sheet, Cavco Industries had liabilities of US$311.5m due within 12 months, and liabilities of US$44.7m due beyond 12 months. On the other hand, it had cash of US$388.7m and US$94.3m worth of receivables due within a year. So it can boast US$126.8m more liquid assets than total liabilities.

This surplus suggests that Cavco Industries has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Cavco Industries boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Cavco Industries's load is not too heavy, because its EBIT was down 29% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 Cavco Industries's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Cavco Industries 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, Cavco Industries generated free cash flow amounting to a very robust 82% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Cavco Industries has net cash of US$387.0m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of US$148m, being 82% of its EBIT. So we are not troubled with Cavco Industries's debt use. 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. To that end, you should be aware of the 1 warning sign we've spotted with Cavco Industries .

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.