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. Importantly, Budimex SA (WSE:BDX) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
See our latest analysis for Budimex
What Is Budimex's Debt?
The image below, which you can click on for greater detail, shows that Budimex had debt of zł275.3m at the end of September 2020, a reduction from zł479.9m over a year. However, it does have zł2.43b in cash offsetting this, leading to net cash of zł2.16b.
How Healthy Is Budimex's Balance Sheet?
According to the last reported balance sheet, Budimex had liabilities of zł5.48b due within 12 months, and liabilities of zł1.14b due beyond 12 months. Offsetting this, it had zł2.43b in cash and zł1.66b in receivables that were due within 12 months. So its liabilities total zł2.53b more than the combination of its cash and short-term receivables.
While this might seem like a lot, it is not so bad since Budimex has a market capitalization of zł8.17b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Budimex boasts net cash, so it's fair to say it does not have a heavy debt load!
In addition to that, we're happy to report that Budimex has boosted its EBIT by 36%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Budimex 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. Budimex 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. Over the last three years, Budimex actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.
Summing up
While Budimex does have more liabilities than liquid assets, it also has net cash of zł2.16b. The cherry on top was that in converted 140% of that EBIT to free cash flow, bringing in zł1.7b. So we don't think Budimex's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Consider for instance, the ever-present spectre of investment risk. We've identified 1 warning sign with Budimex , 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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About WSE:BDX
Budimex
Operates as an infrastructure and services company in Poland, Germany, and internationally.
Flawless balance sheet with proven track record.