Is Romande Energie Holding (VTX:HREN) A Risky Investment?

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.' 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, Romande Energie Holding SA (VTX:HREN) does carry debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Romande Energie Holding

How Much Debt Does Romande Energie Holding Carry?

As you can see below, Romande Energie Holding had CHF94.8m of debt at June 2021, down from CHF176.6m a year prior. But it also has CHF126.0m in cash to offset that, meaning it has CHF31.2m net cash.

A Look At Romande Energie Holding's Liabilities

The latest balance sheet data shows that Romande Energie Holding had liabilities of CHF152.0m due within a year, and liabilities of CHF231.1m falling due after that. Offsetting this, it had CHF126.0m in cash and CHF80.7m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CHF176.5m.

Of course, Romande Energie Holding has a market capitalization of CHF1.37b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, Romande Energie Holding also has more cash than debt, so we're pretty confident it can manage its debt safely.

The good news is that Romande Energie Holding has increased its EBIT by 8.2% over twelve months, which should ease any concerns about debt repayment. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Romande Energie Holding can strengthen its balance sheet over time. 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. Romande Energie Holding 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. Looking at the most recent three years, Romande Energie Holding recorded free cash flow of 37% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While Romande Energie Holding does have more liabilities than liquid assets, it also has net cash of CHF31.2m. On top of that, it increased its EBIT by 8.2% in the last twelve months. So we are not troubled with Romande Energie Holding's debt use. 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 Romande Energie Holding's earnings per share history for free.

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.

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.

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