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 synonymous with risk.” When we think of a company’s risk, we always like to look at its use of debt, because over-indebtedness can lead to ruin. We can see that Eurofins Scientific SE (EPA:ERF) uses debt in its business. But should shareholders worry about its use of debt?
Why is debt risky?
Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, it exists at their mercy. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more frequent (but still costly) event is when a company has to issue shares at bargain prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, however, debt can be a great tool for companies that need capital to invest in growth at high rates of return. The first step when considering a company’s debt levels is to consider its cash and debt together.
Discover our latest analyzes for Eurofins Scientific
What is Eurofins Scientific’s debt?
You can click on the chart below for historical figures, but it shows Eurofins Scientific had €2.22 billion in debt in December 2021, up from €2.62 billion a year earlier. On the other hand, he has €515.8 million in cash, resulting in a net debt of around €1.70 billion.
How healthy is Eurofins Scientific’s balance sheet?
We can see from the most recent balance sheet that Eurofins Scientific had liabilities of €1.86 billion due in one year, and liabilities of €2.80 billion due beyond. On the other hand, it had cash of €515.8 million and €1.58 billion in receivables at less than one year. Thus, its liabilities total 2.56 billion euros more than the combination of its cash and short-term receivables.
Given that publicly traded Eurofins Scientific shares are worth a very impressive total of €16.5 billion, it seems unlikely that this level of liability is a major threat. That said, it is clear that we must continue to monitor its record, lest it deteriorate.
We use two main ratios to inform us about debt to earnings levels. The first is net debt divided by earnings before interest, taxes, depreciation and amortization (EBITDA), while the second is how often its earnings before interest and taxes (EBIT) covers its interest expense (or its interests, for short). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.
Eurofins Scientific’s net debt is only 0.97 times its EBITDA. And its EBIT covers its interest charges 14.7 times. One could therefore say that he is no more threatened by his debt than an elephant is by a mouse. In addition, Eurofins Scientific has increased its EBIT by 50% over the last twelve months, and this growth will facilitate the management of its debt. When analyzing debt levels, the balance sheet is the obvious starting point. But it is ultimately the company’s future profitability that will decide whether Eurofins Scientific can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.
Finally, while the taxman may love accounting profits, lenders only accept cash. We therefore always check how much of this EBIT is converted into free cash flow. Over the past three years, Eurofins Scientific has recorded free cash flow worth 82% of its EBIT, which is higher than we would normally expect. This puts him in a very strong position to pay off the debt.
Our point of view
Fortunately, Eurofins Scientific’s impressive interest coverage means it has the upper hand on its debt. And this is only the beginning of good news since its conversion of EBIT into free cash flow is also very pleasing. Given this set of factors, it seems to us that Eurofins Scientific is quite cautious with its debt, and the risks seem well controlled. So we are not worried about using a little leverage on the balance sheet. The balance sheet is clearly the area to focus on when analyzing debt. However, not all investment risks reside on the balance sheet, far from it. Example: we have identified 2 warning signs for Eurofins Scientific you should be aware, and 1 of them is a bit unpleasant.
In the end, sometimes it’s easier to focus on companies that don’t even need to take on debt. Readers can access a list of growth stocks with no net debt 100% freeat present.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.