Is TietoEVRY Oyj (HEL:TIETO) A Risky Investment?

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. As with many other companies TietoEVRY Oyj (HEL:TIETO) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for TietoEVRY Oyj

What Is TietoEVRY Oyj's Debt?

As you can see below, TietoEVRY Oyj had €913.3m of debt, at September 2024, which is about the same as the year before. You can click the chart for greater detail. However, it also had €198.4m in cash, and so its net debt is €714.9m.

A Look At TietoEVRY Oyj's Liabilities

We can see from the most recent balance sheet that TietoEVRY Oyj had liabilities of €1.03b falling due within a year, and liabilities of €783.4m due beyond that. Offsetting these obligations, it had cash of €198.4m as well as receivables valued at €584.2m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €1.03b.

While this might seem like a lot, it is not so bad since TietoEVRY Oyj has a market capitalization of €2.12b, 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.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

TietoEVRY Oyj has net debt worth 2.1 times EBITDA, which isn't too much, but its interest cover looks a bit on the low side, with EBIT at only 3.8 times the interest expense. While that doesn't worry us too much, it does suggest the interest payments are somewhat of a burden. The bad news is that TietoEVRY Oyj saw its EBIT decline by 11% over the last year. If that sort of decline is not arrested, then the managing its debt will be harder than selling broccoli flavoured ice-cream for a premium. 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 TietoEVRY Oyj 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 company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, TietoEVRY Oyj recorded free cash flow worth a fulsome 83% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Our View

When it comes to the balance sheet, the standout positive for TietoEVRY Oyj was the fact that it seems able to convert EBIT to free cash flow confidently. But the other factors we noted above weren't so encouraging. For instance it seems like it has to struggle a bit to grow its EBIT. Looking at all this data makes us feel a little cautious about TietoEVRY Oyj's debt levels. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. 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. To that end, you should be aware of the 2 warning signs we've spotted with TietoEVRY Oyj .

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.

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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.