Is Flexopack Société Anonyme Commercial and Industrial Plastics (ATH:FLEXO) A Risky Investment?

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 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. We can see that Flexopack Société Anonyme Commercial and Industrial Plastics Company (ATH:FLEXO) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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.

Check out our latest analysis for Flexopack Société Anonyme Commercial and Industrial Plastics

What Is Flexopack Société Anonyme Commercial and Industrial Plastics's Net Debt?

As you can see below, at the end of June 2022, Flexopack Société Anonyme Commercial and Industrial Plastics had €20.8m of debt, up from €13.6m a year ago. Click the image for more detail. However, it also had €16.5m in cash, and so its net debt is €4.29m.

How Healthy Is Flexopack Société Anonyme Commercial and Industrial Plastics' Balance Sheet?

According to the last reported balance sheet, Flexopack Société Anonyme Commercial and Industrial Plastics had liabilities of €43.8m due within 12 months, and liabilities of €18.8m due beyond 12 months. Offsetting this, it had €16.5m in cash and €36.1m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €10.0m.

Of course, Flexopack Société Anonyme Commercial and Industrial Plastics has a market capitalization of €76.7m, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

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.

Flexopack Société Anonyme Commercial and Industrial Plastics has a low net debt to EBITDA ratio of only 0.18. And its EBIT easily covers its interest expense, being 49.4 times the size. So we're pretty relaxed about its super-conservative use of debt. In addition to that, we're happy to report that Flexopack Société Anonyme Commercial and Industrial Plastics has boosted its EBIT by 65%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Flexopack Société Anonyme Commercial and Industrial Plastics's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Flexopack Société Anonyme Commercial and Industrial Plastics reported free cash flow worth 7.1% of its EBIT, which is really quite low. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Our View

Flexopack Société Anonyme Commercial and Industrial Plastics's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. But we must concede we find its conversion of EBIT to free cash flow has the opposite effect. When we consider the range of factors above, it looks like Flexopack Société Anonyme Commercial and Industrial Plastics is pretty sensible with its use of debt. While that brings some risk, it can also enhance returns for shareholders. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 3 warning signs for Flexopack Société Anonyme Commercial and Industrial Plastics (1 can't be ignored) you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.