We Think Dätwyler Holding (VTX:DAE) Can Stay On Top Of Its Debt

Warren Buffett famously said, '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. As with many other companies Dätwyler Holding AG (VTX:DAE) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Dätwyler Holding

What Is Dätwyler Holding's Net Debt?

The image below, which you can click on for greater detail, shows that Dätwyler Holding had debt of CHF257.4m at the end of June 2020, a reduction from CHF304.8m over a year. On the flip side, it has CHF168.7m in cash leading to net debt of about CHF88.7m.

How Strong Is Dätwyler Holding's Balance Sheet?

We can see from the most recent balance sheet that Dätwyler Holding had liabilities of CHF244.1m falling due within a year, and liabilities of CHF178.8m due beyond that. Offsetting this, it had CHF168.7m in cash and CHF176.1m in receivables that were due within 12 months. So it has liabilities totalling CHF78.1m more than its cash and near-term receivables, combined.

This state of affairs indicates that Dätwyler Holding's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the CHF4.06b company is short on cash, but still worth keeping an eye on the balance sheet.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Dätwyler Holding's net debt is only 0.54 times its EBITDA. And its EBIT covers its interest expense a whopping 21.0 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. In fact Dätwyler Holding's saving grace is its low debt levels, because its EBIT has tanked 41% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Dätwyler Holding'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Looking at the most recent three years, Dätwyler Holding recorded free cash flow of 26% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

Dätwyler Holding's EBIT growth rate was a real negative on this analysis, although the other factors we considered were considerably better. In particular, we are dazzled with its interest cover. When we consider all the factors mentioned above, we do feel a bit cautious about Dätwyler Holding's use of debt. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more risky. Even though Dätwyler Holding lost money on the bottom line, its positive EBIT suggests the business itself has potential. So you might want to check out how earnings have been trending over the last few years.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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This article by Simply Wall St is general in nature. 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.
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