Kingspan Group (ISE:KRX) Could Easily Take On More Debt

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. Importantly, Kingspan Group plc (ISE:KRX) does carry debt. But is this debt a concern to shareholders?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Kingspan Group

How Much Debt Does Kingspan Group Carry?

You can click the graphic below for the historical numbers, but it shows that as of June 2021 Kingspan Group had €1.55b of debt, an increase on €902.6m, over one year. However, it does have €931.5m in cash offsetting this, leading to net debt of about €619.9m.

How Strong Is Kingspan Group's Balance Sheet?

The latest balance sheet data shows that Kingspan Group had liabilities of €1.73b due within a year, and liabilities of €1.75b falling due after that. Offsetting this, it had €931.5m in cash and €1.24b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €1.31b.

Of course, Kingspan Group has a titanic market capitalization of €17.6b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Kingspan Group's net debt is only 0.84 times its EBITDA. And its EBIT easily covers its interest expense, being 20.0 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. On top of that, Kingspan Group grew its EBIT by 38% 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 Kingspan Group 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Kingspan Group generated free cash flow amounting to a very robust 84% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Our View

Kingspan Group'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. It looks Kingspan Group has no trouble standing on its own two feet, and it has no reason to fear its lenders. To our minds it has a healthy happy balance sheet. 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. We've identified 1 warning sign with Kingspan Group , and understanding them should be part of your investment process.

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.
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