Here's Why Italmobiliare (BIT:ITM) Can Manage Its Debt Responsibly

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.' 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 Italmobiliare S.p.A. (BIT:ITM) makes use of debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Italmobiliare

What Is Italmobiliare's Net Debt?

The image below, which you can click on for greater detail, shows that Italmobiliare had debt of €101.1m at the end of December 2020, a reduction from €162.2m over a year. But on the other hand it also has €431.4m in cash, leading to a €330.3m net cash position.

A Look At Italmobiliare's Liabilities

We can see from the most recent balance sheet that Italmobiliare had liabilities of €243.3m falling due within a year, and liabilities of €177.6m due beyond that. Offsetting this, it had €431.4m in cash and €127.0m in receivables that were due within 12 months. So it actually has €137.5m more liquid assets than total liabilities.

This surplus suggests that Italmobiliare has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Italmobiliare has more cash than debt is arguably a good indication that it can manage its debt safely.

Unfortunately, Italmobiliare's EBIT flopped 19% over the last four quarters. If that sort of decline is not arrested, then the managing its debt will be harder than selling broccoli flavoured ice-cream for a premium. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Italmobiliare can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Italmobiliare may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the most recent three years, Italmobiliare recorded free cash flow worth 60% of its EBIT, which is around normal, given free cash flow excludes interest and tax. 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 Italmobiliare has €330.3m in net cash and a decent-looking balance sheet. So we are not troubled with Italmobiliare's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Italmobiliare is showing 2 warning signs in our investment analysis , and 1 of those shouldn't be ignored...

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. 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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