We Think Inversiones Siemel (SNSE:SIEMEL) Can Stay On Top Of Its Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Inversiones Siemel S.A. (SNSE:SIEMEL) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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, 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 step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Inversiones Siemel

What Is Inversiones Siemel's Debt?

The image below, which you can click on for greater detail, shows that at September 2020 Inversiones Siemel had debt of CL$40.4b, up from CL$36.5b in one year. However, because it has a cash reserve of CL$13.4b, its net debt is less, at about CL$27.0b.

How Strong Is Inversiones Siemel's Balance Sheet?

The latest balance sheet data shows that Inversiones Siemel had liabilities of CL$16.5b due within a year, and liabilities of CL$49.2b falling due after that. Offsetting this, it had CL$13.4b in cash and CL$9.14b in receivables that were due within 12 months. So it has liabilities totalling CL$43.2b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Inversiones Siemel has a market capitalization of CL$119.6b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Inversiones Siemel has a debt to EBITDA ratio of 3.5, which signals significant debt, but is still pretty reasonable for most types of business. But its EBIT was about 1k times its interest expense, implying the company isn't really paying a high cost to maintain that level of debt. Even were the low cost to prove unsustainable, that is a good sign. We also note that Inversiones Siemel improved its EBIT from a last year's loss to a positive CL$4.0b. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Inversiones Siemel will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Happily for any shareholders, Inversiones Siemel actually produced more free cash flow than EBIT over the last year. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

Happily, Inversiones Siemel's impressive interest cover implies it has the upper hand on its debt. But, on a more sombre note, we are a little concerned by its net debt to EBITDA. Looking at all the aforementioned factors together, it strikes us that Inversiones Siemel can handle its debt fairly comfortably. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. 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. For instance, we've identified 1 warning sign for Inversiones Siemel that you should be aware of.

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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