The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. We can see that Cementir Holding N.V. (BIT:CEM) does use debt in its business. But the real question is whether this debt is making the company risky.
Why Does Debt Bring Risk?
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 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. The first step when considering a company's debt levels is to consider its cash and debt together.
View our latest analysis for Cementir Holding
How Much Debt Does Cementir Holding Carry?
As you can see below, Cementir Holding had €452.7m of debt at December 2020, down from €487.4m a year prior. On the flip side, it has €413.6m in cash leading to net debt of about €39.1m.
How Strong Is Cementir Holding's Balance Sheet?
According to the last reported balance sheet, Cementir Holding had liabilities of €683.7m due within 12 months, and liabilities of €365.7m due beyond 12 months. On the other hand, it had cash of €413.6m and €167.0m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by €468.8m.
Cementir Holding has a market capitalization of €1.45b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).
Cementir Holding's net debt is only 0.18 times its EBITDA. And its EBIT easily covers its interest expense, being 15.5 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Fortunately, Cementir Holding grew its EBIT by 3.0% in the last year, making that debt load look even more manageable. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Cementir Holding'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, 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. During the last three years, Cementir Holding generated free cash flow amounting to a very robust 99% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.
Our View
Happily, Cementir Holding's impressive interest cover implies it has the upper hand on its debt. And that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. Zooming out, Cementir Holding seems to use debt quite reasonably; and that gets the nod from us. After all, sensible leverage can boost returns on equity. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Cementir Holding is showing 2 warning signs in our investment analysis , you should know about...
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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About BIT:CEM
Cementir Holding
Manufactures and distributes grey and white cement, ready-mix concrete, aggregates, and concrete products in Nordic and Baltic, Belgium, North America, Turkiye, Egypt, and Asia Pacific.
Flawless balance sheet, undervalued and pays a dividend.
