Eternit (BVMF:ETER3) Could Easily Take On More Debt

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. We note that Eternit S.A. (BVMF:ETER3) does have debt on its balance sheet. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Eternit

What Is Eternit's Net Debt?

As you can see below, Eternit had R$38.4m of debt at September 2021, down from R$66.8m a year prior. But on the other hand it also has R$259.3m in cash, leading to a R$221.0m net cash position.

A Look At Eternit's Liabilities

The latest balance sheet data shows that Eternit had liabilities of R$185.7m due within a year, and liabilities of R$250.0m falling due after that. On the other hand, it had cash of R$259.3m and R$253.0m worth of receivables due within a year. So it can boast R$76.6m more liquid assets than total liabilities.

This short term liquidity is a sign that Eternit could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Eternit boasts net cash, so it's fair to say it does not have a heavy debt load!

Better yet, Eternit grew its EBIT by 1,390% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Eternit will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Eternit may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. In the last two years, Eternit's free cash flow amounted to 27% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While it is always sensible to investigate a company's debt, in this case Eternit has R$221.0m in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 1,390% over the last year. So is Eternit's debt a risk? It doesn't seem so to us. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Eternit is showing 3 warning signs in our investment analysis , and 1 of those can't be ignored...

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.