Does ACS Actividades de Construcción y Servicios (BME:ACS) Have A Healthy Balance Sheet?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 ACS, Actividades de Construcción y Servicios, S.A. (BME:ACS) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. 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 ACS Actividades de Construcción y Servicios

What Is ACS Actividades de Construcción y Servicios's Debt?

The chart below, which you can click on for greater detail, shows that ACS Actividades de Construcción y Servicios had €10.5b in debt in March 2024; about the same as the year before. However, it also had €7.70b in cash, and so its net debt is €2.83b.

How Healthy Is ACS Actividades de Construcción y Servicios' Balance Sheet?

According to the last reported balance sheet, ACS Actividades de Construcción y Servicios had liabilities of €4.22b due within 12 months, and liabilities of €14.2b due beyond 12 months. On the other hand, it had cash of €7.70b and €9.65b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by €1.06b.

Given ACS Actividades de Construcción y Servicios has a humongous market capitalization of €10.3b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

ACS Actividades de Construcción y Servicios's debt is 2.6 times its EBITDA, and its EBIT cover its interest expense 2.9 times over. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. Pleasingly, ACS Actividades de Construcción y Servicios is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 134% gain in the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine ACS Actividades de Construcción y Servicios'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, ACS Actividades de Construcción y Servicios actually produced more free cash flow than EBIT. 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 ACS Actividades de Construcción y Servicios'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 interest cover. Zooming out, ACS Actividades de Construcción y Servicios seems to use debt quite reasonably; and that gets the nod from us. While debt does bring risk, when used wisely it can also bring a higher return on equity. 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. For instance, we've identified 2 warning signs for ACS Actividades de Construcción y Servicios (1 makes us a bit uncomfortable) you should be aware of.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com