Is Skanska (STO:SKA B) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Skanska AB (publ) (STO:SKA B) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Our analysis indicates that SKA B is potentially undervalued!

What Is Skanska's Debt?

As you can see below, Skanska had kr8.45b of debt, at September 2022, which is about the same as the year before. You can click the chart for greater detail. But on the other hand it also has kr13.1b in cash, leading to a kr4.66b net cash position.

A Look At Skanska's Liabilities

The latest balance sheet data shows that Skanska had liabilities of kr85.1b due within a year, and liabilities of kr14.8b falling due after that. Offsetting these obligations, it had cash of kr13.1b as well as receivables valued at kr37.4b due within 12 months. So its liabilities total kr49.4b more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of kr76.2b, so it does suggest shareholders should keep an eye on Skanska's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. Despite its noteworthy liabilities, Skanska boasts net cash, so it's fair to say it does not have a heavy debt load!

The good news is that Skanska has increased its EBIT by 2.0% over twelve months, which should ease any concerns about debt repayment. 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 Skanska 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Skanska has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, Skanska generated free cash flow amounting to a very robust 91% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While Skanska does have more liabilities than liquid assets, it also has net cash of kr4.66b. The cherry on top was that in converted 91% of that EBIT to free cash flow, bringing in kr3.4b. So we don't have any problem with Skanska's use of debt. 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. Case in point: We've spotted 3 warning signs for Skanska you should be aware of, and 1 of them is a bit concerning.

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.

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.