Is Compañía de Distribución Integral Logista Holdings (BME:LOG) Using Too Much Debt?

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. Importantly, Compañía de Distribución Integral Logista Holdings, S.A. (BME:LOG) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Compañía de Distribución Integral Logista Holdings

What Is Compañía de Distribución Integral Logista Holdings's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Compañía de Distribución Integral Logista Holdings had €49.9m of debt in December 2021, down from €75.4m, one year before. However, it does have €2.46b in cash offsetting this, leading to net cash of €2.41b.

How Strong Is Compañía de Distribución Integral Logista Holdings' Balance Sheet?

The latest balance sheet data shows that Compañía de Distribución Integral Logista Holdings had liabilities of €6.22b due within a year, and liabilities of €365.5m falling due after that. Offsetting this, it had €2.46b in cash and €1.80b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €2.32b.

Given this deficit is actually higher than the company's market capitalization of €2.13b, we think shareholders really should watch Compañía de Distribución Integral Logista Holdings's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. Compañía de Distribución Integral Logista Holdings boasts net cash, so it's fair to say it does not have a heavy debt load, even if it does have very significant liabilities, in total.

Another good sign is that Compañía de Distribución Integral Logista Holdings has been able to increase its EBIT by 22% in twelve months, making it easier to pay down debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Compañía de Distribución Integral Logista Holdings'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. While Compañía de Distribución Integral Logista Holdings has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, Compañía de Distribución Integral Logista Holdings produced sturdy free cash flow equating to 77% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing up

Although Compañía de Distribución Integral Logista Holdings's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of €2.41b. And it impressed us with free cash flow of -€342m, being 77% of its EBIT. So we don't have any problem with Compañía de Distribución Integral Logista Holdings's use of debt. 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. We've identified 1 warning sign with Compañía de Distribución Integral Logista Holdings , and understanding them should be part of your investment process.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.