Here's Why HORNBACH Holding KGaA (ETR:HBH) Can Manage Its Debt Responsibly

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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, HORNBACH Holding AG & Co. KGaA (ETR:HBH) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for HORNBACH Holding KGaA

What Is HORNBACH Holding KGaA's Debt?

As you can see below, HORNBACH Holding KGaA had €734.6m of debt at November 2020, down from €1.01b a year prior. But on the other hand it also has €743.3m in cash, leading to a €8.70m net cash position.

A Look At HORNBACH Holding KGaA's Liabilities

Zooming in on the latest balance sheet data, we can see that HORNBACH Holding KGaA had liabilities of €876.5m due within 12 months and liabilities of €1.38b due beyond that. On the other hand, it had cash of €743.3m and €65.5m worth of receivables due within a year. So its liabilities total €1.45b more than the combination of its cash and short-term receivables.

Given this deficit is actually higher than the company's market capitalization of €1.44b, we think shareholders really should watch HORNBACH Holding KGaA's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. HORNBACH Holding KGaA boasts net cash, so it's fair to say it does not have a heavy debt load, even if it does have very significant liabilities, in total.

Even more impressive was the fact that HORNBACH Holding KGaA grew its EBIT by 109% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine HORNBACH Holding KGaA's ability to maintain a healthy balance sheet going forward. 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. While HORNBACH Holding KGaA 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. Over the most recent three years, HORNBACH Holding KGaA recorded free cash flow worth 66% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing up

While HORNBACH Holding KGaA does have more liabilities than liquid assets, it also has net cash of €8.70m. And it impressed us with its EBIT growth of 109% over the last year. So we are not troubled with HORNBACH Holding KGaA's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 2 warning signs for HORNBACH Holding KGaA (1 is potentially serious!) that you should be aware of before investing here.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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