Yahoo Finance Does Crest Nicholson Holdings (LON:CRST) Have A Healthy Balance Sheet?
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 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. As with many other companies Crest Nicholson Holdings plc (LON:CRST) makes use of debt. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.
View our latest analysis for Crest Nicholson Holdings
What Is Crest Nicholson Holdings's Debt?
The image below, which you can click on for greater detail, shows that at April 2019 Crest Nicholson Holdings had debt of UK£253.7m, up from UK£180.4m in one year. However, it does have UK£187.9m in cash offsetting this, leading to net debt of about UK£65.8m.
A Look At Crest Nicholson Holdings's Liabilities
The latest balance sheet data shows that Crest Nicholson Holdings had liabilities of UK£360.6m due within a year, and liabilities of UK£396.0m falling due after that. On the other hand, it had cash of UK£187.9m and UK£129.0m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by UK£439.7m.
While this might seem like a lot, it is not so bad since Crest Nicholson Holdings has a market capitalization of UK£884.4m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.
Crest Nicholson Holdings has a low net debt to EBITDA ratio of only 0.36. And its EBIT easily covers its interest expense, being 16.6 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. But the bad news is that Crest Nicholson Holdings has seen its EBIT plunge 13% in the last twelve months. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Crest Nicholson Holdings can strengthen its balance sheet over time. 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 company can only pay off debt with cold hard cash, not accounting profits. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Looking at the most recent three years, Crest Nicholson Holdings recorded free cash flow of 29% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.
Our View
Crest Nicholson Holdings's EBIT growth rate and conversion of EBIT to free cash flow definitely weigh on it, in our esteem. But its interest cover tells a very different story, and suggests some resilience. When we consider all the factors discussed, it seems to us that Crest Nicholson Holdings is taking some risks with its use of debt. While that debt can boost returns, we think the company has enough leverage now. In light of our reservations about the company's balance sheet, it seems sensible to check if insiders have been selling shares recently.
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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If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.