These 4 Measures Indicate That FNM (BIT:FNM) Is Using Debt Safely

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.' 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 can see that FNM S.p.A. (BIT:FNM) does use debt in its business. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. 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 FNM

How Much Debt Does FNM Carry?

As you can see below, FNM had €153.0m of debt at December 2020, down from €271.0m a year prior. However, its balance sheet shows it holds €240.8m in cash, so it actually has €87.8m net cash.

How Healthy Is FNM's Balance Sheet?

According to the last reported balance sheet, FNM had liabilities of €349.4m due within 12 months, and liabilities of €154.0m due beyond 12 months. On the other hand, it had cash of €240.8m and €181.7m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by €80.9m.

Given FNM has a market capitalization of €733.5m, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, FNM also has more cash than debt, so we're pretty confident it can manage its debt safely.

Also good is that FNM grew its EBIT at 17% over the last year, further increasing its ability to manage debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine FNM'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 company can only pay off debt with cold hard cash, not accounting profits. FNM 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. Happily for any shareholders, FNM actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While FNM does have more liabilities than liquid assets, it also has net cash of €87.8m. The cherry on top was that in converted 111% of that EBIT to free cash flow, bringing in -€9.8m. So we don't think FNM's use of debt is risky. 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 FNM , and understanding them should be part of your investment process.

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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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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