Here's Why Técnicas Reunidas (BME:TRE) Has A Meaningful Debt Burden

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Técnicas Reunidas, S.A. (BME:TRE) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Técnicas Reunidas

What Is Técnicas Reunidas's Net Debt?

The image below, which you can click on for greater detail, shows that Técnicas Reunidas had debt of €926.4m at the end of June 2023, a reduction from €1.09b over a year. However, it does have €992.3m in cash offsetting this, leading to net cash of €66.0m.

How Healthy Is Técnicas Reunidas' Balance Sheet?

We can see from the most recent balance sheet that Técnicas Reunidas had liabilities of €3.68b falling due within a year, and liabilities of €806.2m due beyond that. On the other hand, it had cash of €992.3m and €3.13b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by €371.8m.

While this might seem like a lot, it is not so bad since Técnicas Reunidas has a market capitalization of €716.3m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Técnicas Reunidas boasts net cash, so it's fair to say it does not have a heavy debt load!

Although Técnicas Reunidas made a loss at the EBIT level, last year, it was also good to see that it generated €137m in EBIT over the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Técnicas Reunidas can strengthen its balance sheet over time. 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. Técnicas Reunidas 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. Considering the last year, Técnicas Reunidas actually recorded a cash outflow, overall. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Summing Up

While Técnicas Reunidas does have more liabilities than liquid assets, it also has net cash of €66.0m. So while Técnicas Reunidas does not have a great balance sheet, it's certainly not too bad. 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. For instance, we've identified 3 warning signs for Técnicas Reunidas (1 is concerning) you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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

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.