These 4 Measures Indicate That Hermès International Société en commandite par actions (EPA:RMS) Is Using Debt Reasonably Well

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Hermès International Société en commandite par actions (EPA:RMS) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

View our latest analysis for Hermès International Société en commandite par actions

What Is Hermès International Société en commandite par actions's Net Debt?

The image below, which you can click on for greater detail, shows that Hermès International Société en commandite par actions had debt of €42.9m at the end of December 2020, a reduction from €50.1m over a year. But it also has €4.73b in cash to offset that, meaning it has €4.69b net cash.

How Healthy Is Hermès International Société en commandite par actions' Balance Sheet?

We can see from the most recent balance sheet that Hermès International Société en commandite par actions had liabilities of €1.84b falling due within a year, and liabilities of €1.82b due beyond that. Offsetting these obligations, it had cash of €4.73b as well as receivables valued at €313.2m due within 12 months. So it actually has €1.39b more liquid assets than total liabilities.

This state of affairs indicates that Hermès International Société en commandite par actions' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the €121.2b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, Hermès International Société en commandite par actions boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Hermès International Société en commandite par actions's EBIT dived 14%, over the last year. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. 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 Hermès International Société en commandite par actions can strengthen its balance sheet over time. 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 Hermès International Société en commandite par actions 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 most recent three years, Hermès International Société en commandite par actions recorded free cash flow worth 68% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing up

While it is always sensible to investigate a company's debt, in this case Hermès International Société en commandite par actions has €4.69b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of €1.2b, being 68% of its EBIT. So we are not troubled with Hermès International Société en commandite par actions's debt use. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Hermès International Société en commandite par actions's earnings per share history for free.

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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