Berkshire Hathaway’s Charlie Munger-backed external fund manager Li Lu is quick to say “The biggest risk in investing is not price volatility, but the fact that you suffer a permanent loss of capital. “. 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. We note that Poujoulat SA (EPA: ALPJT) has debt on its balance sheet. But does this debt concern shareholders?
Why Does Debt Bring Risk?
Generally speaking, debt only becomes a real problem when a company cannot repay it easily, either by raising capital or with its own cash flow. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, constantly diluting shareholders, just to strengthen its balance sheet. That said, the most common situation is where a business manages its debt reasonably well – and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash flow and debt together.
See our latest review for Poujoulat
What is Poujoulat’s debt?
The image below, which you can click for more details, shows that in March 2021, Poujoulat had a debt of â¬ 75.6m, compared to â¬ 70.5m in one year. However, he also had 15.2 million euros in cash, so his net debt is 60.4 million euros.
A look at Poujoulat’s liabilities
According to the latest published balance sheet, Poujoulat had liabilities of â¬ 63.6 million at 12 months and liabilities of â¬ 73.0 million over 12 months. In return, he had â¬ 15.2 million in cash and â¬ 45.4 million in receivables due within 12 months. Its liabilities thus exceed the sum of its cash and its (short-term) receivables by â¬ 76.0 million.
This deficit is considerable compared to its market capitalization of 104.7 M â¬, he therefore suggests that shareholders keep an eye on the use of Poujoulat’s debt. If its lenders asked it to consolidate the balance sheet, shareholders would likely face severe dilution.
We measure a company’s indebtedness relative to its earning power by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating the ease with which its earnings before interest and taxes (EBIT ) covers its interests. costs (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).
Poujoulat’s net debt is 3.4 times its EBITDA, which constitutes a significant but still reasonable leverage. But its EBIT was around 11.7 times its interest expense, implying that the company isn’t really paying a high cost to maintain that level of debt. Even if the low cost turned out to be unsustainable, that’s a good sign. Notably, Poujoulat’s EBIT was higher than Elon Musk’s, gaining a whopping 269% over last year. The balance sheet is clearly the area you need to focus on when analyzing debt. But it is future results, more than anything, that will determine Poujoulat’s ability to maintain a healthy balance sheet in the future. So if you are focused on the future you can check this out free report showing analysts’ earnings forecasts.
Finally, a business needs free cash flow to repay its debts; accounting profits are not enough. We must therefore clearly check whether this EBIT generates a corresponding free cash flow. In the past three years, Poujoulat has burned a lot of money. While investors no doubt expect this situation to reverse in due course, this clearly means that its use of debt is riskier.
Our point of view
Whereas the conversion of Poujoulat’s EBIT into free cash flow makes us nervous. Both the growth rate of EBIT and the interest coverage were encouraging signs. From all the angles mentioned above, it seems to us that Poujoulat is a somewhat risky investment because of its debt. Not all risks are bad, as they can increase stock price returns if they are profitable, but this risk of leverage is worth keeping in mind. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks lie on the balance sheet – far from it. Concrete example: we have spotted 2 warning signs for Poujoulat you must be aware.
If you are interested in investing in companies that can generate profits without the burden of debt, check out this page. free list of growing companies that have net cash on the balance sheet.
If you decide to trade Poujoulat, use the cheapest platform * which is ranked # 1 overall by Barron’s, Interactive Brokers. Trade stocks, options, futures, currencies, bonds and funds in 135 markets, all from one integrated account. Promoted
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 documents. Simply Wall St has no position in any of the stocks mentioned.
*Interactive Brokers Ranked Least Expensive Broker By StockBrokers.com Online Annual Review 2020
Do you have any feedback on this item? Are you worried about the content? Get in touch with us directly. You can also send an email to the editorial team (at) simplywallst.com.