Does Cembre (BIT:CMB) Have A Healthy Balance Sheet?

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, Cembre S.p.A. (BIT:CMB) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Cembre

How Much Debt Does Cembre Carry?

As you can see below, at the end of September 2020, Cembre had €18.8m of debt, up from €12.2m a year ago. Click the image for more detail. But it also has €29.5m in cash to offset that, meaning it has €10.7m net cash.

How Healthy Is Cembre's Balance Sheet?

We can see from the most recent balance sheet that Cembre had liabilities of €42.6m falling due within a year, and liabilities of €11.5m due beyond that. Offsetting this, it had €29.5m in cash and €25.4m in receivables that were due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

Having regard to Cembre's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the €334.4m company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Cembre has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Cembre's load is not too heavy, because its EBIT was down 24% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Cembre's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Cembre has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, Cembre produced sturdy free cash flow equating to 54% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing up

While it is always sensible to investigate a company's debt, in this case Cembre has €10.7m in net cash and a decent-looking balance sheet. So we don't have any problem with Cembre's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Cembre you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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