Is Compagnie Financière Richemont (VTX:CFR) Using Too Much Debt?

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, Compagnie Financière Richemont SA (VTX:CFR) 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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Compagnie Financière Richemont

What Is Compagnie Financière Richemont's Debt?

The image below, which you can click on for greater detail, shows that at September 2022 Compagnie Financière Richemont had debt of €11.8b, up from €10.9b in one year. But on the other hand it also has €16.5b in cash, leading to a €4.76b net cash position.

How Strong Is Compagnie Financière Richemont's Balance Sheet?

We can see from the most recent balance sheet that Compagnie Financière Richemont had liabilities of €11.8b falling due within a year, and liabilities of €9.55b due beyond that. On the other hand, it had cash of €16.5b and €1.82b worth of receivables due within a year. So it has liabilities totalling €3.02b more than its cash and near-term receivables, combined.

Since publicly traded Compagnie Financière Richemont shares are worth a very impressive total of €83.3b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, Compagnie Financière Richemont boasts net cash, so it's fair to say it does not have a heavy debt load!

Also positive, Compagnie Financière Richemont grew its EBIT by 26% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Compagnie Financière Richemont'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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Compagnie Financière Richemont 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. Over the last three years, Compagnie Financière Richemont actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

We could understand if investors are concerned about Compagnie Financière Richemont's liabilities, but we can be reassured by the fact it has has net cash of €4.76b. And it impressed us with free cash flow of €3.4b, being 107% of its EBIT. So is Compagnie Financière Richemont's debt a risk? It doesn't seem so to us. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Compagnie Financière Richemont's earnings per share history for free.

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. 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.