Is Safran (EPA:SAF) A Risky Investment?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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, Safran SA (EPA:SAF) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Safran

What Is Safran's Debt?

The chart below, which you can click on for greater detail, shows that Safran had €6.39b in debt in December 2022; about the same as the year before. But on the other hand it also has €6.69b in cash, leading to a €299.0m net cash position.

A Look At Safran's Liabilities

Zooming in on the latest balance sheet data, we can see that Safran had liabilities of €27.5b due within 12 months and liabilities of €8.49b due beyond that. On the other hand, it had cash of €6.69b and €9.14b worth of receivables due within a year. So its liabilities total €20.1b more than the combination of its cash and short-term receivables.

Safran has a very large market capitalization of €57.7b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Safran boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, Safran grew its EBIT by 96% over the last twelve months, and that growth will make it easier to handle its debt. 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 Safran 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. Safran 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. Happily for any shareholders, Safran actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing Up

Although Safran's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of €299.0m. The cherry on top was that in converted 104% of that EBIT to free cash flow, bringing in €2.6b. So we don't think Safran's use of debt is risky. While Safran didn't make a statutory profit in the last year, its positive EBIT suggests that profitability might not be far away. Click here to see if its earnings are heading in the right direction, over the medium term.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.