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

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Romande Energie Holding SA (VTX:HREN) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. 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. 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.

View our latest analysis for Romande Energie Holding

What Is Romande Energie Holding's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2021 Romande Energie Holding had CHF99.9m of debt, an increase on CHF85.8m, over one year. However, it does have CHF124.9m in cash offsetting this, leading to net cash of CHF25.0m.

How Healthy Is Romande Energie Holding's Balance Sheet?

According to the last reported balance sheet, Romande Energie Holding had liabilities of CHF145.6m due within 12 months, and liabilities of CHF228.5m due beyond 12 months. On the other hand, it had cash of CHF124.9m and CHF83.4m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CHF165.6m.

Of course, Romande Energie Holding has a market capitalization of CHF1.23b, 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. Despite its noteworthy liabilities, Romande Energie Holding boasts net cash, so it's fair to say it does not have a heavy debt load!

But the other side of the story is that Romande Energie Holding saw its EBIT decline by 8.7% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Romande Energie Holding can strengthen its balance sheet over time. 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. While Romande Energie Holding 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. Looking at the most recent three years, Romande Energie Holding recorded free cash flow of 43% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing up

Although Romande Energie Holding's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CHF25.0m. So we are not troubled with Romande Energie Holding's debt use. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for Romande Energie Holding you should be aware of, and 1 of them can't be ignored.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.