Does Aedas Homes (BME:AEDAS) Have A Healthy Balance Sheet?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Aedas Homes, S.A. (BME:AEDAS) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Aedas Homes

What Is Aedas Homes's Net Debt?

As you can see below, Aedas Homes had €353.2m of debt, at March 2021, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has €201.9m in cash leading to net debt of about €151.4m.

How Healthy Is Aedas Homes' Balance Sheet?

According to the last reported balance sheet, Aedas Homes had liabilities of €603.2m due within 12 months, and liabilities of €89.5m due beyond 12 months. Offsetting this, it had €201.9m in cash and €51.1m in receivables that were due within 12 months. So its liabilities total €439.7m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Aedas Homes has a market capitalization of €1.07b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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.

Looking at its net debt to EBITDA of 1.2 and interest cover of 4.7 times, it seems to us that Aedas Homes is probably using debt in a pretty reasonable way. So we'd recommend keeping a close eye on the impact financing costs are having on the business. Pleasingly, Aedas Homes is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 342% 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 Aedas Homes'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, 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. Over the last two years, Aedas Homes saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

Aedas Homes's conversion of EBIT to free cash flow and interest cover definitely weigh on it, in our esteem. But its EBIT growth rate tells a very different story, and suggests some resilience. Looking at all the angles mentioned above, it does seem to us that Aedas Homes is a somewhat risky investment as a result of its debt. That's not necessarily a bad thing, since leverage can boost returns on equity, but it is something to be aware of. Over time, share prices tend to follow earnings per share, so if you're interested in Aedas Homes, you may well want to click here to check an interactive graph of its earnings per share history.

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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