We Think AT & S Austria Technologie & Systemtechnik (VIE:ATS) Can Stay On Top Of Its Debt

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 AT & S Austria Technologie & Systemtechnik Aktiengesellschaft (VIE:ATS) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for AT & S Austria Technologie & Systemtechnik

What Is AT & S Austria Technologie & Systemtechnik's Net Debt?

The image below, which you can click on for greater detail, shows that at June 2022 AT & S Austria Technologie & Systemtechnik had debt of €1.45b, up from €1.22b in one year. However, it also had €1.22b in cash, and so its net debt is €228.7m.

How Strong Is AT & S Austria Technologie & Systemtechnik's Balance Sheet?

We can see from the most recent balance sheet that AT & S Austria Technologie & Systemtechnik had liabilities of €765.1m falling due within a year, and liabilities of €1.97b due beyond that. Offsetting these obligations, it had cash of €1.22b as well as receivables valued at €444.9m due within 12 months. So it has liabilities totalling €1.07b more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of €1.38b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its 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).

AT & S Austria Technologie & Systemtechnik has net debt of just 0.55 times EBITDA, suggesting it could ramp leverage without breaking a sweat. And remarkably, despite having net debt, it actually received more in interest over the last twelve months than it had to pay. So there's no doubt this company can take on debt while staying cool as a cucumber. Better yet, AT & S Austria Technologie & Systemtechnik grew its EBIT by 127% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if AT & S Austria Technologie & Systemtechnik 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. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, AT & S Austria Technologie & Systemtechnik saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

Based on what we've seen AT & S Austria Technologie & Systemtechnik is not finding it easy, given its conversion of EBIT to free cash flow, but the other factors we considered give us cause to be optimistic. In particular, we are dazzled with its interest cover. Looking at all this data makes us feel a little cautious about AT & S Austria Technologie & Systemtechnik's debt levels. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for AT & S Austria Technologie & Systemtechnik you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.