Is Conzzeta (VTX:CON) Using Too Much 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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Conzzeta AG (VTX:CON) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Conzzeta

What Is Conzzeta's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Conzzeta had CHF4.70m of debt in June 2020, down from CHF8.10m, one year before. But on the other hand it also has CHF238.2m in cash, leading to a CHF233.5m net cash position.

How Healthy Is Conzzeta's Balance Sheet?

According to the last reported balance sheet, Conzzeta had liabilities of CHF273.5m due within 12 months, and liabilities of CHF47.9m due beyond 12 months. Offsetting this, it had CHF238.2m in cash and CHF205.7m in receivables that were due within 12 months. So it actually has CHF122.5m more liquid assets than total liabilities.

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

The modesty of its debt load may become crucial for Conzzeta if management cannot prevent a repeat of the 59% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Conzzeta's ability to maintain a healthy balance sheet going forward. 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. Conzzeta 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 three years, Conzzeta's free cash flow amounted to 29% 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 Conzzeta has CHF233.5m in net cash and a decent-looking balance sheet. So we don't have any problem with Conzzeta's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Consider risks, for instance. Every company has them, and we've spotted 1 warning sign for Conzzeta you should know about.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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