NKT (CPH:NKT) Could Easily Take On More Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We can see that NKT A/S (CPH:NKT) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for NKT

What Is NKT's Debt?

As you can see below, at the end of June 2024, NKT had €227.0m of debt, up from €182.3m a year ago. Click the image for more detail. But on the other hand it also has €1.50b in cash, leading to a €1.28b net cash position.

How Healthy Is NKT's Balance Sheet?

According to the last reported balance sheet, NKT had liabilities of €2.47b due within 12 months, and liabilities of €302.0m due beyond 12 months. Offsetting these obligations, it had cash of €1.50b as well as receivables valued at €611.0m due within 12 months. So it has liabilities totalling €653.0m more than its cash and near-term receivables, combined.

Since publicly traded NKT shares are worth a total of €4.55b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, NKT also has more cash than debt, so we're pretty confident it can manage its debt safely.

Even more impressive was the fact that NKT grew its EBIT by 107% over twelve months. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine NKT's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. NKT 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. Happily for any shareholders, NKT actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

While NKT does have more liabilities than liquid assets, it also has net cash of €1.28b. And it impressed us with free cash flow of €880m, being 420% of its EBIT. So we don't think NKT's use of debt is risky. We'd be very excited to see if NKT insiders have been snapping up shares. If you are too, then click on this link right now to take a (free) peek at our list of reported insider transactions.

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.