Yahoo Finance These 4 Measures Indicate That L'Air Liquide S.A (EPA:AI) Is Using Debt Reasonably Well
Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that L'Air Liquide S.A. (EPA:AI) does use debt in its business. But should shareholders be worried about its use of debt?
What Risk Does Debt Bring?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.
View our latest analysis for L'Air Liquide S.A
What Is L'Air Liquide S.A's Debt?
You can click the graphic below for the historical numbers, but it shows that L'Air Liquide S.A had €14.7b of debt in June 2019, down from €15.4b, one year before. However, because it has a cash reserve of €1.03b, its net debt is less, at about €13.7b.
How Strong Is L'Air Liquide S.A's Balance Sheet?
We can see from the most recent balance sheet that L'Air Liquide S.A had liabilities of €8.50b falling due within a year, and liabilities of €17.1b due beyond that. Offsetting these obligations, it had cash of €1.03b as well as receivables valued at €2.72b due within 12 months. So its liabilities total €21.8b more than the combination of its cash and short-term receivables.
While this might seem like a lot, it is not so bad since L'Air Liquide S.A has a huge market capitalization of €55.5b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.
We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.
With net debt to EBITDA of 2.6 L'Air Liquide S.A has a fairly noticeable amount of debt. But the high interest coverage of 8.9 suggests it can easily service that debt. If L'Air Liquide S.A can keep growing EBIT at last year's rate of 12% 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 it is future earnings, more than anything, that will determine L'Air Liquide S.A'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 report on analyst profit forecasts to be interesting.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. Over the most recent three years, L'Air Liquide S.A recorded free cash flow worth 68% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.
Our View
The good news is that L'Air Liquide S.A's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. But truth be told we feel its net debt to EBITDA does undermine this impression a bit. All these things considered, it appears that L'Air Liquide S.A can comfortably handle its current debt levels. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of L'Air Liquide S.A's earnings per share history for free.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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