These 4 measures indicate that Bouygues (EPA: EN) is using the debt reasonably well

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 whether you will suffer a permanent loss of capital”. It is only natural to consider a company’s balance sheet when looking at its level of risk, as debt is often involved when a business collapses. Like many other companies Bouygues SA (EPA: EN) uses debt. But does this debt worry shareholders?

When is debt dangerous?

Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. 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 analysis for Bouygues

How much debt does Bouygues have?

As you can see below, Bouygues had 6.73 billion euros in debt in June 2021, up from 8.59 billion euros the previous year. However, because it has a cash reserve of 3.93 billion euros, its net debt is less, at around 2.81 billion euros.

ENXTPA: FR History of debt versus equity August 29, 2021

A look at the liabilities of Bouygues

According to the latest report published, Bouygues had liabilities of € 21.2bn less than 12 months and liabilities of € 9.21bn over 12 months. In compensation for these obligations, he had cash of € 3.93 billion as well as receivables valued at € 13.9 billion within 12 months. Its liabilities therefore amount to € 12.6 billion more than the combination of its cash and short-term receivables.

That’s a mountain of leverage even compared to its gargantuan market capitalization of € 13.5 billion. If its lenders asked it to consolidate the balance sheet, shareholders would likely face severe dilution.

We use two main ratios to inform us about the levels of debt compared to earnings. The first is net debt divided by earnings before interest, taxes, depreciation, and amortization (EBITDA), while the second is the number of times its profit before interest and taxes (EBIT) covers its interest expense (or its coverage of interest, for short). Thus, we consider debt versus earnings with and without amortization charges.

With net debt of only 0.74 times EBITDA, Bouygues is undoubtedly fairly cautious. And it has 9.1 times interest coverage, which is more than enough. In addition, Bouygues has increased its EBIT by 70% over the past twelve months, and this growth will facilitate the processing of its debt. The balance sheet is clearly the area you need to focus on when analyzing debt. But in the end, it is the company’s future profitability that will decide whether Bouygues will be able to strengthen its balance sheet over time. 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 pay off debts; accounting profits are not enough. We therefore always check how much of this EBIT is converted into free cash flow. Over the past three years, Bouygues has recorded free cash flow of 60% of its EBIT, which is close to normal, given that free cash flow is understood to be net of interest and taxes. This free cash flow puts the business in a good position to repay debt, if any.

Our point of view

Fortunately, Bouygues’ impressive EBIT growth rate means that it has the upper hand over its debt. But frankly, we think his total passive level undermines that feeling a bit. Considering all of the above factors together, it seems to us that Bouygues can manage its debt quite comfortably. On the plus side, this leverage can increase returns to shareholders, but the potential downside is more risk of loss, so it’s worth watching the balance sheet. 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, we discovered 1 warning sign for Bouygues which you should know before investing here.

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 growth net stocks today.

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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 the mentioned stocks.
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