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. As with many other companies. Bilfinger SE (FRA:GBF) makes use of debt. But is this debt a concern to shareholders?
What Risk Does Debt Bring?
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. 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. 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.
How Much Debt Does Bilfinger Carry?
As you can see below, Bilfinger had €500.0m of debt, at March 2019, which is about the same the year before. You can click the chart for greater detail. On the flip side, it has €485.0m in cash leading to net debt of about €15.0m.
A Look At Bilfinger’s Liabilities
Zooming in on the latest balance sheet data, we can see that Bilfinger had liabilities of €1.86b due within 12 months and liabilities of €567.0m due beyond that. Offsetting this, it had €485.0m in cash and €1.28b in receivables that were due within 12 months. So it has liabilities totalling €661.0m more than its cash and near-term receivables, combined.
This is a mountain of leverage relative to its market capitalization of €1.06b. This suggests shareholders would heavily diluted if the company needed to shore up its balance sheet in a hurry. But either way, Bilfinger has virtually no net debt, so it’s fair to say it does not have a heavy debt load!
We measure a company’s debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).
Bilfinger has a low debt to EBITDA ratio of only 0.19. And remarkably, despite having net debt, it actually received more in interest over the last twelve months than it had to pay. So there’s no doubt this company can take on debt while staying cool as a cucumber. It was also good to see that despite losing money on the EBIT line last year, Bilfinger turned things around in the last 12 months, delivering and EBIT of €3.4m. There’s no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Bilfinger 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, 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. Over the last year, Bilfinger saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.
Neither Bilfinger’s ability to convert EBIT to free cash flow nor its level of total liabilities gave us confidence in its ability to take on more debt. But the good news is it seems to be able to cover its interest expense with its EBIT with ease. Taking the abovementioned factors together we do think Bilfinger’s debt poses some risks to the business. So while that leverage does boost returns on equity, we wouldn’t really want to see it increase from here. Even though Bilfinger lost money on the bottom line, its positive EBIT suggests the business itself has potential. So you might want to check outhow earnings have been trending over the last few years.
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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.