Is Bang & Olufsen (CPH:BO) Using Debt In A Risky Way?

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. Importantly, Bang & Olufsen a/s (CPH:BO) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. 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. 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 Bang & Olufsen

What Is Bang & Olufsen's Net Debt?

As you can see below, at the end of February 2023, Bang & Olufsen had kr.463.0m of debt, up from kr.209.0m a year ago. Click the image for more detail. But on the other hand it also has kr.608.0m in cash, leading to a kr.145.0m net cash position.

A Look At Bang & Olufsen's Liabilities

The latest balance sheet data shows that Bang & Olufsen had liabilities of kr.1.17b due within a year, and liabilities of kr.200.0m falling due after that. Offsetting these obligations, it had cash of kr.608.0m as well as receivables valued at kr.424.0m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by kr.338.0m.

While this might seem like a lot, it is not so bad since Bang & Olufsen has a market capitalization of kr.1.24b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. While it does have liabilities worth noting, Bang & Olufsen also has more cash than debt, so we're pretty confident it can manage its debt safely. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Bang & Olufsen'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.

Over 12 months, Bang & Olufsen made a loss at the EBIT level, and saw its revenue drop to kr.2.8b, which is a fall of 7.3%. We would much prefer see growth.

So How Risky Is Bang & Olufsen?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And in the last year Bang & Olufsen had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of kr.244m and booked a kr.177m accounting loss. Given it only has net cash of kr.145.0m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, we'd say the stock is a bit risky, and we're usually very cautious until we see positive free cash flow. 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 1 warning sign for Bang & Olufsen you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.