Is EssilorLuxottica Société anonyme (EPA:EL) Using Too Much Debt?

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. We can see that EssilorLuxottica Société anonyme (EPA:EL) does use debt in its business. But the real question is whether this debt is making the company risky.

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When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

What Is EssilorLuxottica Société anonyme's Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2024 EssilorLuxottica Société anonyme had €9.57b of debt, an increase on €8.42b, over one year. However, because it has a cash reserve of €2.25b, its net debt is less, at about €7.32b.

How Strong Is EssilorLuxottica Société anonyme's Balance Sheet?

We can see from the most recent balance sheet that EssilorLuxottica Société anonyme had liabilities of €10.6b falling due within a year, and liabilities of €12.7b due beyond that. Offsetting this, it had €2.25b in cash and €3.91b in receivables that were due within 12 months. So it has liabilities totalling €17.1b more than its cash and near-term receivables, combined.

Since publicly traded EssilorLuxottica Société anonyme shares are worth a very impressive total of €112.0b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time.

See our latest analysis for EssilorLuxottica Société anonyme

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.

EssilorLuxottica Société anonyme's net debt is only 1.3 times its EBITDA. And its EBIT easily covers its interest expense, being 22.3 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Also good is that EssilorLuxottica Société anonyme grew its EBIT at 10% over the last year, further increasing its ability to manage debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if EssilorLuxottica Société anonyme 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Happily for any shareholders, EssilorLuxottica Société anonyme 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.

Our View

EssilorLuxottica Société anonyme's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. And the good news does not stop there, as its conversion of EBIT to free cash flow also supports that impression! We would also note that Medical Equipment industry companies like EssilorLuxottica Société anonyme commonly do use debt without problems. Zooming out, EssilorLuxottica Société anonyme seems to use debt quite reasonably; and that gets the nod from us. After all, sensible leverage can boost returns on equity. 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 EssilorLuxottica Société anonyme's earnings per share history for free.

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.