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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Eolus Vind AB (publ) (STO:EOLU B) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Eolus Vind's Net Debt?
You can click the graphic below for the historical numbers, but it shows that Eolus Vind had kr194.2m of debt in September 2021, down from kr404.7m, one year before. However, it does have kr726.5m in cash offsetting this, leading to net cash of kr532.3m.
How Healthy Is Eolus Vind's Balance Sheet?
We can see from the most recent balance sheet that Eolus Vind had liabilities of kr746.7m falling due within a year, and liabilities of kr107.3m due beyond that. Offsetting these obligations, it had cash of kr726.5m as well as receivables valued at kr138.1m due within 12 months. So these liquid assets roughly match the total liabilities.
This state of affairs indicates that Eolus Vind's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the kr2.78b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, Eolus Vind boasts net cash, so it's fair to say it does not have a heavy debt load!
Fortunately, Eolus Vind grew its EBIT by 8.7% in the last year, making that debt load look even more manageable. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Eolus Vind'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Eolus Vind 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. Looking at the most recent three years, Eolus Vind recorded free cash flow of 46% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.
While it is always sensible to investigate a company's debt, in this case Eolus Vind has kr532.3m in net cash and a decent-looking balance sheet. On top of that, it increased its EBIT by 8.7% in the last twelve months. So we are not troubled with Eolus Vind's debt use. 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. Be aware that Eolus Vind is showing 2 warning signs in our investment analysis , you should know about...
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
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.