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.’ So it seems the smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess how risky a company is. Importantly, Beiersdorf Aktiengesellschaft (ETR:BEI) does carry debt. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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.
What Is Beiersdorf’s Debt?
The image below, which you can click on for greater detail, shows that at June 2020 Beiersdorf had debt of €318.0m, up from none in one year. But it also has €1.58b in cash to offset that, meaning it has €1.26b net cash.
How Healthy Is Beiersdorf’s Balance Sheet?
We can see from the most recent balance sheet that Beiersdorf had liabilities of €2.62b falling due within a year, and liabilities of €1.08b due beyond that. Offsetting this, it had €1.58b in cash and €1.57b in receivables that were due within 12 months. So it has liabilities totalling €559.0m more than its cash and near-term receivables, combined.
Of course, Beiersdorf has a titanic market capitalization of €22.6b, so these liabilities are probably manageable. Having said that, it’s clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, Beiersdorf boasts net cash, so it’s fair to say it does not have a heavy debt load!
On the other hand, Beiersdorf saw its EBIT drop by 5.9% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Beiersdorf can strengthen its balance sheet over time. So if you’re focused on the future you can check out this free report showing analyst profit forecasts.
Finally, a business needs free cash flow to pay off debt; accounting profits just don’t cut it. While Beiersdorf 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, Beiersdorf produced sturdy free cash flow equating to 52% of its EBIT, about what we’d expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.
While it is always sensible to look at a company’s total liabilities, it is very reassuring that Beiersdorf has €1.26b in net cash. So we are not troubled with Beiersdorf’s debt use. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you’ve also come to that realization, you’re in luck, because today you can view this interactive graph of Beiersdorf’s earnings per share history for free.
Of course, if you’re the type of investor who prefers buying stocks without the burden of debt, then don’t hesitate to discover our exclusive list of net cash growth stocks, today.
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