Asseco Poland (WSE:ACP) Seems To Use Debt Quite Sensibly

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Asseco Poland S.A. (WSE:ACP) does carry debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, 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. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Asseco Poland

What Is Asseco Poland's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2022 Asseco Poland had debt of zł3.48b, up from zł2.69b in one year. On the flip side, it has zł3.34b in cash leading to net debt of about zł135.3m.

How Healthy Is Asseco Poland's Balance Sheet?

We can see from the most recent balance sheet that Asseco Poland had liabilities of zł6.28b falling due within a year, and liabilities of zł4.00b due beyond that. Offsetting these obligations, it had cash of zł3.34b as well as receivables valued at zł5.25b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by zł1.70b.

Asseco Poland has a market capitalization of zł6.20b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

With debt at a measly 0.066 times EBITDA and EBIT covering interest a whopping 16.3 times, it's clear that Asseco Poland is not a desperate borrower. So relative to past earnings, the debt load seems trivial. And we also note warmly that Asseco Poland grew its EBIT by 12% last year, making its debt load easier to handle. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Asseco Poland can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

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. Over the last three years, Asseco Poland actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

Asseco Poland's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. 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, Asseco Poland seems to use debt quite reasonably; and that gets the nod from us. After all, sensible leverage can boost returns on equity. Another positive for shareholders is that it pays dividends. So if you like receiving those dividend payments, check Asseco Poland's dividend history, without delay!

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.