Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett said “volatility is far from risk.” So it can be obvious that you need to consider debt, when you think about how risky a given stock is because too much debt can sink a business. Like many other companies DIC Asset SA (ETR: DIC) uses debt. But should shareholders be concerned about its use of debt?
When is debt dangerous?
Debts and other liabilities become risky for a business when it cannot easily meet these obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, debt can be an important tool in businesses, especially capital intensive businesses. The first step in examining a company’s debt levels is to consider its cash flow and debt together.
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What is the debt of DIC Asset?
You can click on the graph below for historical figures, but it shows that as of June 2021, DIC Asset had â¬ 1.76 billion in debt, an increase from â¬ 1.46 billion, over a year. However, it has 213.7 million euros in cash to make up for this, which leads to net debt of around 1.55 billion euros.
How healthy is DIC Asset’s balance sheet?
Zooming in on the latest balance sheet data, we can see that DIC Asset had a liability of 502.7 million euros due within 12 months and a liability of 1.77 billion euros due beyond. On the other hand, it had cash of â¬ 213.7 million and â¬ 112.0 million in receivables within one year. It therefore has liabilities totaling 1.95 billion euros more than its combined cash and short-term receivables.
The deficit here weighs heavily on the 1.30 billion euro company itself, as if a child struggles under the weight of a huge backpack full of books, his sports equipment and a trumpet. We would therefore be watching its record closely, without a doubt. After all, DIC Asset would likely need a major recapitalization if it were to pay its creditors today.
In order to measure a company’s debt relative to its profits, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its profit before interest and taxes (EBIT) divided by its interest. debtors (its interest coverage). The advantage of this approach is that we take into account both the absolute amount of debt (with net debt versus EBITDA) and the actual interest charges associated with this debt (with its coverage rate). interests).
DIC Asset has a fairly high debt to EBITDA ratio of 12.5, which suggests significant leverage. But the good news is that it has a pretty heartwarming 3.0x interest coverage, which suggests it can meet its obligations responsibly. More worryingly, DIC Asset has seen its EBIT fall by 7.4% over the past twelve months. If it continues like this, paying off debt will be like running on a treadmill – a lot of effort for little progress. The balance sheet is clearly the area you need to focus on when analyzing debt. But it is future earnings, more than anything, that will determine DIC Asset’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 analyst earnings forecast report interesting.
Finally, a business needs free cash flow to pay off debts; accounting profits are not enough. It is therefore worth checking to what extent this EBIT is supported by free cash flow. Over the past three years, DIC Asset has generated strong free cash flow equivalent to 75% of its EBIT, which we expected. This hard cash allows him to reduce his debt whenever he wants.
Our point of view
At first glance, DIC Asset’s level of total liabilities left us hesitant about the stock, and its net debt to EBITDA was no more attractive than the lone empty restaurant on the busiest night of the week. ‘year. But at least it’s pretty decent to convert EBIT into free cash flow; it’s encouraging. We are pretty clear that we consider DIC Asset to be really quite risky, due to the health of its balance sheet. For this reason, we are fairly cautious about the stock, and we believe shareholders should keep a close eye on its liquidity. When analyzing debt levels, the balance sheet is the obvious starting point. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, DIC Asset has 2 warning signs (and 1 which is significant) we think you should be aware of.
Of course, if you are the type of investor who prefers to buy stocks without going into debt, feel free to check out our exclusive list of cash net growth stocks today.
This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative material. Simply Wall St has no position in any of the stocks mentioned.
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