David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. As with many other companies Ponsse Oyj (HEL:PON1V) makes use of debt. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
What Is Ponsse Oyj's Net Debt?
The image below, which you can click on for greater detail, shows that Ponsse Oyj had debt of €54.2m at the end of September 2021, a reduction from €161.8m over a year. But it also has €75.5m in cash to offset that, meaning it has €21.3m net cash.
A Look At Ponsse Oyj's Liabilities
Zooming in on the latest balance sheet data, we can see that Ponsse Oyj had liabilities of €147.0m due within 12 months and liabilities of €51.5m due beyond that. On the other hand, it had cash of €75.5m and €69.2m worth of receivables due within a year. So its liabilities total €53.8m more than the combination of its cash and short-term receivables.
Given Ponsse Oyj has a market capitalization of €1.18b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Ponsse Oyj also has more cash than debt, so we're pretty confident it can manage its debt safely.
The good news is that Ponsse Oyj has increased its EBIT by 7.0% over twelve months, which should ease any concerns about debt repayment. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Ponsse 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. Ponsse Oyj 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. During the last three years, Ponsse Oyj produced sturdy free cash flow equating to 67% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.
While it is always sensible to look at a company's total liabilities, it is very reassuring that Ponsse Oyj has €21.3m in net cash. And it impressed us with free cash flow of €83m, being 67% of its EBIT. So we don't think Ponsse Oyj's use of debt is risky. Over time, share prices tend to follow earnings per share, so if you're interested in Ponsse Oyj, 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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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.