Is Semapa - Sociedade de Investimento e Gestão SGPS (ELI:SEM) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies Semapa - Sociedade de Investimento e Gestão, SGPS, S.A. (ELI:SEM) makes use of debt. But the more important question is: how much risk is that debt creating?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Semapa - Sociedade de Investimento e Gestão SGPS

What Is Semapa - Sociedade de Investimento e Gestão SGPS's Net Debt?

As you can see below, at the end of September 2020, Semapa - Sociedade de Investimento e Gestão SGPS had €1.94b of debt, up from €1.74b a year ago. Click the image for more detail. However, it also had €708.0m in cash, and so its net debt is €1.23b.

How Healthy Is Semapa - Sociedade de Investimento e Gestão SGPS' Balance Sheet?

We can see from the most recent balance sheet that Semapa - Sociedade de Investimento e Gestão SGPS had liabilities of €1.34b falling due within a year, and liabilities of €1.60b due beyond that. Offsetting this, it had €708.0m in cash and €369.2m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €1.87b.

This deficit casts a shadow over the €738.0m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Semapa - Sociedade de Investimento e Gestão SGPS would likely require a major re-capitalisation if it had to pay its creditors today.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Semapa - Sociedade de Investimento e Gestão SGPS's debt is 3.0 times its EBITDA, and its EBIT cover its interest expense 3.4 times over. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Another concern for investors might be that Semapa - Sociedade de Investimento e Gestão SGPS's EBIT fell 12% in the last year. If things keep going like that, handling the debt will about as easy as bundling an angry house cat into its travel box. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Semapa - Sociedade de Investimento e Gestão SGPS 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the last three years, Semapa - Sociedade de Investimento e Gestão SGPS 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

We'd go so far as to say Semapa - Sociedade de Investimento e Gestão SGPS's level of total liabilities was disappointing. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Looking at the bigger picture, it seems clear to us that Semapa - Sociedade de Investimento e Gestão SGPS's use of debt is creating risks for the company. If everything goes well that may pay off but the downside of this debt is a greater risk of permanent losses. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that Semapa - Sociedade de Investimento e Gestão SGPS is showing 3 warning signs in our investment analysis , and 1 of those makes us a bit uncomfortable...

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. 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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