Stock Analysis

We Think Hansen Technologies (ASX:HSN) Can Manage Its Debt With Ease

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ASX:HSN
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David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Hansen Technologies Limited (ASX:HSN) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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, 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.

See our latest analysis for Hansen Technologies

How Much Debt Does Hansen Technologies Carry?

You can click the graphic below for the historical numbers, but it shows that Hansen Technologies had AU$142.8m of debt in December 2020, down from AU$180.4m, one year before. However, it does have AU$48.9m in cash offsetting this, leading to net debt of about AU$93.9m.

debt-equity-history-analysis
ASX:HSN Debt to Equity History February 26th 2021

A Look At Hansen Technologies' Liabilities

Zooming in on the latest balance sheet data, we can see that Hansen Technologies had liabilities of AU$88.6m due within 12 months and liabilities of AU$193.4m due beyond that. Offsetting these obligations, it had cash of AU$48.9m as well as receivables valued at AU$82.9m due within 12 months. So its liabilities total AU$150.2m more than the combination of its cash and short-term receivables.

Since publicly traded Hansen Technologies shares are worth a total of AU$790.6m, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

With a debt to EBITDA ratio of 1.6, Hansen Technologies uses debt artfully but responsibly. And the fact that its trailing twelve months of EBIT was 7.6 times its interest expenses harmonizes with that theme. In addition to that, we're happy to report that Hansen Technologies has boosted its EBIT by 99%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Hansen Technologies can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Happily for any shareholders, Hansen Technologies actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Happily, Hansen Technologies's impressive conversion of EBIT to free cash flow implies it has the upper hand on its debt. And the good news does not stop there, as its EBIT growth rate also supports that impression! Looking at the bigger picture, we think Hansen Technologies's use of debt seems quite reasonable and we're not concerned about it. After all, sensible leverage can boost returns on equity. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 2 warning signs we've spotted with Hansen Technologies .

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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