We Think Tele2 (STO:TEL2 B) Can Stay On Top Of Its Debt

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 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. We can see that Tele2 AB (publ) (STO:TEL2 B) does use debt in its business. But the more important question is: how much risk is that debt creating?

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. If things get really bad, the lenders can take control of the business. 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. 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 Tele2

How Much Debt Does Tele2 Carry?

As you can see below, at the end of March 2024, Tele2 had kr29.4b of debt, up from kr25.7b a year ago. Click the image for more detail. However, because it has a cash reserve of kr4.47b, its net debt is less, at about kr24.9b.

A Look At Tele2's Liabilities

Zooming in on the latest balance sheet data, we can see that Tele2 had liabilities of kr12.6b due within 12 months and liabilities of kr32.4b due beyond that. Offsetting these obligations, it had cash of kr4.47b as well as receivables valued at kr5.82b due within 12 months. So its liabilities total kr34.7b more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Tele2 is worth kr71.7b, and thus could probably raise enough capital to shore up 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 use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Tele2's net debt is sitting at a very reasonable 2.4 times its EBITDA, while its EBIT covered its interest expense just 5.6 times last year. While that doesn't worry us too much, it does suggest the interest payments are somewhat of a burden. If Tele2 can keep growing EBIT at last year's rate of 11% over the last year, then it will find its debt load easier to manage. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Tele2 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 the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Happily for any shareholders, Tele2 actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

Tele2's conversion of EBIT to free cash flow 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 level of total liabilities. All these things considered, it appears that Tele2 can comfortably handle its current debt levels. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for Tele2 you should be aware of.

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.

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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.