Saipem (BIT:SPM) Seems To Use Debt Rather Sparingly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We note that Saipem S.p.A. (BIT:SPM) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Saipem

What Is Saipem's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Saipem had €787.0m of debt in September 2019, down from €1.27b, one year before. However, it does have €1.82b in cash offsetting this, leading to net cash of €1.03b.

A Look At Saipem's Liabilities

According to the last reported balance sheet, Saipem had liabilities of €4.70b due within 12 months, and liabilities of -€3.1b due beyond 12 months. Offsetting these obligations, it had cash of €1.82b as well as receivables valued at €3.88b due within 12 months. So it actually has €4.04b more liquid assets than total liabilities.

This surplus liquidity suggests that Saipem's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this view, it seems its balance sheet is as strong as a black-belt karate master. Succinctly put, Saipem boasts net cash, so it's fair to say it does not have a heavy debt load!

Also relevant is that Saipem has grown its EBIT by a very respectable 26% in the last year, thus enhancing its ability to pay down 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 Saipem 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, a company can only pay off debt with cold hard cash, not accounting profits. Saipem 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. In the last three years, Saipem's free cash flow amounted to 37% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Saipem has net cash of €1.03b, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 26% over the last year. So is Saipem's debt a risk? It doesn't seem so to us. While Saipem didn't make a statutory profit in the last year, its positive EBIT suggests that profitability might not be far away.Click here to see if its earnings are heading in the right direction, over the medium term.

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.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. 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. Simply Wall St has no position in the stocks mentioned.

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