Finatis Société Anonyme (EPA:FNTS) Has A Somewhat Strained Balance Sheet

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. We can see that Finatis Société Anonyme (EPA:FNTS) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Finatis Société Anonyme

How Much Debt Does Finatis Société Anonyme Carry?

As you can see below, at the end of June 2022, Finatis Société Anonyme had €13.1b of debt, up from €12.5b a year ago. Click the image for more detail. However, because it has a cash reserve of €1.74b, its net debt is less, at about €11.4b.

How Strong Is Finatis Société Anonyme's Balance Sheet?

The latest balance sheet data shows that Finatis Société Anonyme had liabilities of €13.0b due within a year, and liabilities of €16.9b falling due after that. On the other hand, it had cash of €1.74b and €915.0m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by €27.2b.

The deficiency here weighs heavily on the €43.5m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Finatis Société Anonyme would probably need a major re-capitalization if its creditors were to demand repayment.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Weak interest cover of 1.5 times and a disturbingly high net debt to EBITDA ratio of 6.0 hit our confidence in Finatis Société Anonyme like a one-two punch to the gut. The debt burden here is substantial. The good news is that Finatis Société Anonyme improved its EBIT by 9.2% over the last twelve months, thus gradually reducing its debt levels relative to its earnings. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Finatis Société Anonyme's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the most recent three years, Finatis Société Anonyme recorded free cash flow worth 62% 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.

Our View

To be frank both Finatis Société Anonyme's net debt to EBITDA and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Overall, it seems to us that Finatis Société Anonyme's balance sheet is really quite a risk to the business. For this reason we're pretty cautious about the stock, and we think shareholders should keep a close eye on its liquidity. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Finatis Société Anonyme (of which 2 shouldn't be ignored!) you should know about.

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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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.