We Think Brd. Klee (CPH:KLEE B) Can Stay On Top Of Its Debt

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. Importantly, Brd. Klee A/S (CPH:KLEE B) does carry debt. But is this debt a concern to shareholders?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Brd. Klee

How Much Debt Does Brd. Klee Carry?

As you can see below, Brd. Klee had kr.10.5m of debt at September 2020, down from kr.11.5m a year prior. However, it does have kr.19.1m in cash offsetting this, leading to net cash of kr.8.65m.

How Strong Is Brd. Klee's Balance Sheet?

We can see from the most recent balance sheet that Brd. Klee had liabilities of kr.31.2m falling due within a year, and liabilities of kr.14.7m due beyond that. Offsetting these obligations, it had cash of kr.19.1m as well as receivables valued at kr.33.7m due within 12 months. So it actually has kr.6.84m more liquid assets than total liabilities.

This short term liquidity is a sign that Brd. Klee could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Brd. Klee has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Brd. Klee's load is not too heavy, because its EBIT was down 50% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But it is Brd. Klee's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Brd. Klee 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, Brd. Klee recorded free cash flow worth 51% 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 we empathize with investors who find debt concerning, you should keep in mind that Brd. Klee has net cash of kr.8.65m, as well as more liquid assets than liabilities. So we don't have any problem with Brd. Klee's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. 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 4 warning signs for Brd. Klee (of which 1 makes us a bit uncomfortable!) 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. 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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