Is Recticel (EBR:RECT) A Risky Investment?

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.' 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, Recticel SA/NV (EBR:RECT) does carry debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Recticel

How Much Debt Does Recticel Carry?

You can click the graphic below for the historical numbers, but it shows that Recticel had €13.2m of debt in June 2023, down from €314.8m, one year before. However, it does have €172.1m in cash offsetting this, leading to net cash of €158.9m.

How Healthy Is Recticel's Balance Sheet?

The latest balance sheet data shows that Recticel had liabilities of €143.8m due within a year, and liabilities of €94.8m falling due after that. Offsetting this, it had €172.1m in cash and €126.9m in receivables that were due within 12 months. So it can boast €60.4m more liquid assets than total liabilities.

This surplus suggests that Recticel has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Recticel has more cash than debt is arguably a good indication that it can manage its debt safely.

Shareholders should be aware that Recticel's EBIT was down 43% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Recticel'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Recticel 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. Happily for any shareholders, Recticel actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

While it is always sensible to investigate a company's debt, in this case Recticel has €158.9m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of €46m, being 205% of its EBIT. So we don't have any problem with Recticel's use of debt. 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. For example, we've discovered 1 warning sign for Recticel that you should be aware of before investing here.

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.