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 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. We note that KONE Oyj (HEL:KNEBV) does have debt on its balance sheet. 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. 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. 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.
How Much Debt Does KONE Oyj Carry?
The chart below, which you can click on for greater detail, shows that KONE Oyj had €169.8m in debt in March 2021; about the same as the year before. However, its balance sheet shows it holds €2.02b in cash, so it actually has €1.85b net cash.
A Look At KONE Oyj's Liabilities
The latest balance sheet data shows that KONE Oyj had liabilities of €5.29b due within a year, and liabilities of €639.3m falling due after that. On the other hand, it had cash of €2.02b and €2.23b worth of receivables due within a year. So it has liabilities totalling €1.67b more than its cash and near-term receivables, combined.
Since publicly traded KONE Oyj shares are worth a very impressive total of €35.8b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, KONE Oyj boasts net cash, so it's fair to say it does not have a heavy debt load!
The good news is that KONE Oyj has increased its EBIT by 6.9% over twelve months, which should ease any concerns about debt repayment. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine KONE Oyj's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. While KONE Oyj 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. Over the last three years, KONE Oyj actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.
We could understand if investors are concerned about KONE Oyj's liabilities, but we can be reassured by the fact it has has net cash of €1.85b. The cherry on top was that in converted 103% of that EBIT to free cash flow, bringing in €1.6b. So we don't think KONE Oyj's use of debt is risky. 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. Case in point: We've spotted 1 warning sign for KONE Oyj you should be aware of.
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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