Here's Why Sláturfélags Suðurlands svf (ICE:SFS B) Can Manage Its Debt Responsibly

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. As with many other companies Sláturfélags Suðurlands svf. (ICE:SFS B) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Sláturfélags Suðurlands svf

What Is Sláturfélags Suðurlands svf's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Sláturfélags Suðurlands svf had Kr2.02b of debt in June 2024, down from Kr2.87b, one year before. However, it does have Kr1.92b in cash offsetting this, leading to net debt of about Kr106.9m.

How Strong Is Sláturfélags Suðurlands svf's Balance Sheet?

We can see from the most recent balance sheet that Sláturfélags Suðurlands svf had liabilities of Kr3.00b falling due within a year, and liabilities of Kr3.36b due beyond that. On the other hand, it had cash of Kr1.92b and Kr2.54b worth of receivables due within a year. So its liabilities total Kr1.90b more than the combination of its cash and short-term receivables.

Given this deficit is actually higher than the company's market capitalization of Kr1.72b, we think shareholders really should watch Sláturfélags Suðurlands svf's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

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.

Sláturfélags Suðurlands svf's debt of just 0.06 times EBITDA is really very modest. And this impression is enhanced by its strong EBIT which covers interest costs 9.0 times. Also good is that Sláturfélags Suðurlands svf grew its EBIT at 16% 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 you can't view debt in total isolation; since Sláturfélags Suðurlands svf will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

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, Sláturfélags Suðurlands svf recorded free cash flow worth a fulsome 82% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Our View

Happily, Sláturfélags Suðurlands svf's impressive conversion of EBIT to free cash flow implies it has the upper hand on its debt. But we must concede we find its level of total liabilities has the opposite effect. All these things considered, it appears that Sláturfélags Suðurlands svf can comfortably handle its current debt levels. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. 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. To that end, you should learn about the 3 warning signs we've spotted with Sláturfélags Suðurlands svf (including 1 which is a bit unpleasant) .

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.