We Think Grupo Cementos de Chihuahua. de (BMV:GCC) Can Manage Its Debt With Ease

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 can see that Grupo Cementos de Chihuahua, S.A.B. de C.V. (BMV:GCC) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. If things get really bad, the lenders can take control of the business. 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.

See our latest analysis for Grupo Cementos de Chihuahua. de

What Is Grupo Cementos de Chihuahua. de's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Grupo Cementos de Chihuahua. de had US$687.8m of debt, an increase on US$650.9m, over one year. On the flip side, it has US$510.9m in cash leading to net debt of about US$176.8m.

How Strong Is Grupo Cementos de Chihuahua. de's Balance Sheet?

According to the last reported balance sheet, Grupo Cementos de Chihuahua. de had liabilities of US$304.2m due within 12 months, and liabilities of US$717.4m due beyond 12 months. Offsetting this, it had US$510.9m in cash and US$168.6m in receivables that were due within 12 months. So it has liabilities totalling US$342.1m more than its cash and near-term receivables, combined.

Since publicly traded Grupo Cementos de Chihuahua. de shares are worth a total of US$1.75b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (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).

Grupo Cementos de Chihuahua. de has net debt of just 0.63 times EBITDA, indicating that it is certainly not a reckless borrower. And this view is supported by the solid interest coverage, with EBIT coming in at 9.3 times the interest expense over the last year. Also positive, Grupo Cementos de Chihuahua. de grew its EBIT by 28% in the last year, and that should make it easier to pay down debt, going forward. 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 Grupo Cementos de Chihuahua. de'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. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Happily for any shareholders, Grupo Cementos de Chihuahua. de 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.

Our View

The good news is that Grupo Cementos de Chihuahua. de's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. And the good news does not stop there, as its EBIT growth rate also supports that impression! Overall, we don't think Grupo Cementos de Chihuahua. de is taking any bad risks, as its debt load seems modest. So the balance sheet looks pretty healthy, to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Grupo Cementos de Chihuahua. de is showing 1 warning sign in our investment analysis , you should know about...

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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