Is Reply (BIT:REY) Using Too Much Debt?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that Reply S.p.A. (BIT:REY) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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.

View our latest analysis for Reply

How Much Debt Does Reply Carry?

You can click the graphic below for the historical numbers, but it shows that Reply had €26.4m of debt in June 2021, down from €41.5m, one year before. However, it does have €331.3m in cash offsetting this, leading to net cash of €304.9m.

How Healthy Is Reply's Balance Sheet?

We can see from the most recent balance sheet that Reply had liabilities of €499.8m falling due within a year, and liabilities of €262.3m due beyond that. On the other hand, it had cash of €331.3m and €336.2m worth of receivables due within a year. So its liabilities total €94.6m more than the combination of its cash and short-term receivables.

Having regard to Reply's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the €5.67b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Reply also has more cash than debt, so we're pretty confident it can manage its debt safely.

Another good sign is that Reply has been able to increase its EBIT by 20% in twelve months, making it easier to pay down debt. 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 Reply'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 Reply 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. Happily for any shareholders, Reply actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Reply has €304.9m in net cash. The cherry on top was that in converted 105% of that EBIT to free cash flow, bringing in €217m. So is Reply's debt a risk? It doesn't seem so to us. 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. We've identified 1 warning sign with Reply , and understanding them should be part of your investment process.

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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