These 4 Measures Indicate That EssilorLuxottica Société anonyme (EPA:EL) Is Using Debt Safely

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies EssilorLuxottica Société anonyme (EPA:EL) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out the opportunities and risks within the FR Medical Equipment industry.

How Much Debt Does EssilorLuxottica Société anonyme Carry?

As you can see below, at the end of June 2022, EssilorLuxottica Société anonyme had €11.0b of debt, up from €9.56b a year ago. Click the image for more detail. On the flip side, it has €3.76b in cash leading to net debt of about €7.24b.

A Look At EssilorLuxottica Société anonyme's Liabilities

The latest balance sheet data shows that EssilorLuxottica Société anonyme had liabilities of €11.2b due within a year, and liabilities of €13.5b falling due after that. Offsetting this, it had €3.76b in cash and €3.38b in receivables that were due within 12 months. So its liabilities total €17.7b more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since EssilorLuxottica Société anonyme has a huge market capitalization of €78.2b, 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.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

EssilorLuxottica Société anonyme's net debt is only 1.5 times its EBITDA. And its EBIT covers its interest expense a whopping 25.8 times over. So we're pretty relaxed about its super-conservative use of debt. On top of that, EssilorLuxottica Société anonyme grew its EBIT by 51% over the last twelve months, and that growth will make it easier to handle its 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 always check how much of that EBIT is translated into 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 that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. We would also note that Medical Equipment industry companies like EssilorLuxottica Société anonyme commonly do use debt without problems. Overall, we don't think EssilorLuxottica Société anonyme is taking any bad risks, as its debt load seems modest. So the balance sheet looks pretty healthy, to us. Over time, share prices tend to follow earnings per share, so if you're interested in EssilorLuxottica Société anonyme, you may well want to click here to check an interactive graph of its earnings per share history.

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.