We Think NIBE Industrier (STO:NIBE B) Can Stay On Top Of Its Debt

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. We note that NIBE Industrier AB (publ) (STO:NIBE B) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for NIBE Industrier

What Is NIBE Industrier's Debt?

As you can see below, at the end of September 2023, NIBE Industrier had kr22.4b of debt, up from kr11.1b a year ago. Click the image for more detail. On the flip side, it has kr4.16b in cash leading to net debt of about kr18.2b.

How Strong Is NIBE Industrier's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that NIBE Industrier had liabilities of kr15.8b due within 12 months and liabilities of kr23.9b due beyond that. Offsetting these obligations, it had cash of kr4.16b as well as receivables valued at kr9.39b due within 12 months. So it has liabilities totalling kr26.1b more than its cash and near-term receivables, combined.

NIBE Industrier has a very large market capitalization of kr124.1b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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).

We'd say that NIBE Industrier's moderate net debt to EBITDA ratio ( being 2.3), indicates prudence when it comes to debt. And its strong interest cover of 11.7 times, makes us even more comfortable. It is well worth noting that NIBE Industrier's EBIT shot up like bamboo after rain, gaining 36% in the last twelve months. That'll make it easier to manage its debt. 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 NIBE Industrier 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, NIBE Industrier's free cash flow amounted to 21% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

NIBE Industrier's EBIT growth rate suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. But, on a more sombre note, we are a little concerned by its conversion of EBIT to free cash flow. Looking at all the aforementioned factors together, it strikes us that NIBE Industrier can handle its debt fairly comfortably. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. 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. We've identified 1 warning sign with NIBE Industrier , and understanding them should be part of your investment process.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.