These 4 Measures Indicate That Nordecon (TAL:NCN1T) Is Using Debt Reasonably Well

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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, Nordecon AS (TAL:NCN1T) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Nordecon

What Is Nordecon's Net Debt?

As you can see below, Nordecon had €17.2m of debt, at September 2020, which is about the same as the year before. You can click the chart for greater detail. However, it does have €7.64m in cash offsetting this, leading to net debt of about €9.56m.

A Look At Nordecon's Liabilities

The latest balance sheet data shows that Nordecon had liabilities of €97.6m due within a year, and liabilities of €11.9m falling due after that. On the other hand, it had cash of €7.64m and €61.5m worth of receivables due within a year. So its liabilities total €40.4m more than the combination of its cash and short-term receivables.

Given this deficit is actually higher than the company's market capitalization of €36.3m, we think shareholders really should watch Nordecon's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

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.

While Nordecon's low debt to EBITDA ratio of 1.3 suggests only modest use of debt, the fact that EBIT only covered the interest expense by 6.4 times last year does give us pause. But the interest payments are certainly sufficient to have us thinking about how affordable its debt is. In addition to that, we're happy to report that Nordecon has boosted its EBIT by 35%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Nordecon will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Happily for any shareholders, Nordecon actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

The good news is that Nordecon's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. But the stark truth is that we are concerned by its level of total liabilities. All these things considered, it appears that Nordecon can comfortably handle its current debt levels. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 4 warning signs we've spotted with Nordecon (including 1 which can't be ignored) .

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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