Does Chr. Hansen Holding (CPH:CHR) Have A Healthy Balance Sheet?

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 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 note that Chr. Hansen Holding A/S (CPH:CHR) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Chr. Hansen Holding

How Much Debt Does Chr. Hansen Holding Carry?

You can click the graphic below for the historical numbers, but it shows that Chr. Hansen Holding had €1.02b of debt in November 2021, down from €1.76b, one year before. However, it also had €55.8m in cash, and so its net debt is €968.1m.

How Strong Is Chr. Hansen Holding's Balance Sheet?

The latest balance sheet data shows that Chr. Hansen Holding had liabilities of €431.9m due within a year, and liabilities of €1.11b falling due after that. On the other hand, it had cash of €55.8m and €206.1m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by €1.28b.

Of course, Chr. Hansen Holding has a market capitalization of €8.15b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Chr. Hansen Holding's net debt is sitting at a very reasonable 2.5 times its EBITDA, while its EBIT covered its interest expense just 6.4 times last year. While that doesn't worry us too much, it does suggest the interest payments are somewhat of a burden. Unfortunately, Chr. Hansen Holding saw its EBIT slide 7.1% in the last twelve months. If that earnings trend continues then its debt load will grow heavy like the heart of a polar bear watching its sole cub. 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 Chr. Hansen Holding'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. So it's worth checking how much of that EBIT is backed by free cash flow. Over the most recent three years, Chr. Hansen Holding recorded free cash flow worth 71% 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.

Our View

On our analysis Chr. Hansen Holding's conversion of EBIT to free cash flow should signal that it won't have too much trouble with its debt. But the other factors we noted above weren't so encouraging. For instance it seems like it has to struggle a bit to grow its EBIT. When we consider all the elements mentioned above, it seems to us that Chr. Hansen Holding is managing its debt quite well. But a word of caution: we think debt levels are high enough to justify ongoing monitoring. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 2 warning signs for Chr. Hansen Holding that you should be aware of.

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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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.