Is Hensoldt (ETR:5UH) A Risky Investment?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Hensoldt AG (ETR:5UH) does have debt on its balance sheet. 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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Hensoldt

What Is Hensoldt's Net Debt?

As you can see below, at the end of March 2024, Hensoldt had €1.08b of debt, up from €632.0m a year ago. Click the image for more detail. But it also has €1.10b in cash to offset that, meaning it has €20.0m net cash.

How Strong Is Hensoldt's Balance Sheet?

We can see from the most recent balance sheet that Hensoldt had liabilities of €1.35b falling due within a year, and liabilities of €1.69b due beyond that. On the other hand, it had cash of €1.10b and €466.0m worth of receivables due within a year. So its liabilities total €1.47b more than the combination of its cash and short-term receivables.

Hensoldt has a market capitalization of €3.93b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. Despite its noteworthy liabilities, Hensoldt boasts net cash, so it's fair to say it does not have a heavy debt load!

The bad news is that Hensoldt saw its EBIT decline by 12% over the last year. If that sort of decline is not arrested, then the managing its debt will be harder than selling broccoli flavoured ice-cream for a premium. 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 Hensoldt 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Hensoldt 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. During the last three years, Hensoldt generated free cash flow amounting to a very robust 100% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While Hensoldt does have more liabilities than liquid assets, it also has net cash of €20.0m. And it impressed us with free cash flow of €188m, being 100% of its EBIT. So we don't have any problem with Hensoldt's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Hensoldt you should know about.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.

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