Does CRH (ISE:CRG) Have A Healthy Balance Sheet?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies CRH plc (ISE:CRG) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

See our latest analysis for CRH

What Is CRH's Net Debt?

The image below, which you can click on for greater detail, shows that CRH had debt of US$10.8b at the end of June 2021, a reduction from US$16.5b over a year. However, it also had US$6.29b in cash, and so its net debt is US$4.55b.

How Healthy Is CRH's Balance Sheet?

According to the last reported balance sheet, CRH had liabilities of US$7.91b due within 12 months, and liabilities of US$16.5b due beyond 12 months. Offsetting this, it had US$6.29b in cash and US$5.34b in receivables that were due within 12 months. So it has liabilities totalling US$12.8b more than its cash and near-term receivables, combined.

This deficit isn't so bad because CRH is worth a massive US$39.1b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

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.

With net debt sitting at just 1.1 times EBITDA, CRH is arguably pretty conservatively geared. And it boasts interest cover of 9.3 times, which is more than adequate. Fortunately, CRH grew its EBIT by 5.0% in the last year, making that debt load look even more manageable. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if CRH 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 the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the last three years, CRH actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

CRH's conversion of EBIT to free cash flow 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 interest cover also supports that impression! Taking all this data into account, it seems to us that CRH takes a pretty sensible approach to debt. That means they are taking on a bit more risk, in the hope of boosting shareholder returns. Over time, share prices tend to follow earnings per share, so if you're interested in CRH, 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.