Does Cencosud (SNSE: CENCOSUD) have a healthy balance sheet?
David Iben put it well when he said, “Volatility is not a risk we care about. What matters to us is to avoid the permanent loss of capital. ‘ So it seems like smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess the level of risk of a business. Mostly, Cencosud SA (SNSE: CENCOSUD) is in debt. But should shareholders be concerned about its use of debt?
When is debt a problem?
Debt helps a business until the business struggles to repay it, either with new capital or with free 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. Of course, many companies use debt to finance their growth without negative consequences. 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 Cencosud
What is Cencosud’s net debt?
You can click on the graph below for historical figures, but it shows that Cencosud had 2.46 t CL of debt in March 2021, up from 2.71 t CL a year earlier. However, he also had 1.17 CL ton of cash, so his net debt is 1.29 CL ton.
A look at Cencosud’s liabilities
According to the last published balance sheet, Cencosud had liabilities of 2.39 t CL $ due within 12 months, and liabilities of 3.80 t CL $ due beyond 12 months. On the other hand, he had cash of CL $ 1.17 tonne and CL $ 570.4 billion in receivables due within one year. Thus, its liabilities exceed the sum of its cash and its (short-term) receivables by CL $ 4.45 t.
When you consider that this shortfall exceeds the company’s CL $ 4.08 million market cap, you may well be inclined to take a close look at the balance sheet. Hypothetically, an extremely large dilution would be necessary if the company was forced to repay its debts by raising capital at the current share price.
We measure a company’s debt load relative to its earning capacity by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating how easily its earnings before interest and taxes (EBIT) covers its interest costs (interest coverage). Thus, we consider debt versus earnings with and without amortization charges.
Cencosud has a net debt of 1.5 times EBITDA, which is not too much, but its interest coverage seems a bit weak, with EBIT at only 3.5 times interest expense. While this doesn’t worry us too much, it does suggest that the interest payments are somewhat of a burden. The bad news is that Cencosud has seen its EBIT drop by 14% over the past year. If this type of decline is not stopped, managing your debt will be more difficult than selling broccoli ice cream at a higher price. There is no doubt that we learn the most about debt from the balance sheet. But it is future profits, more than anything, that will determine Cencosud’s ability to maintain a healthy balance sheet going forward. So if you are focused on the future you can check this out free report showing analysts’ earnings forecasts.
But our last consideration is also important, because a company cannot pay its debts with paper profits; he needs hard cash. The logical step is therefore to examine the proportion of this EBIT that corresponds to the actual free cash flow. Fortunately for all shareholders, Cencosud has actually generated more free cash flow than EBIT over the past three years. This kind of cash conversion makes us as excited as the crowd when the pace drops at a Daft Punk concert.
Our point of view
Neither Cencosud’s ability to increase its EBIT nor its level of total liabilities gave us confidence in its ability to take on more debt. But his conversion from EBIT to free cash tells a very different story and suggests some resilience. Taking the above factors together, we believe that Cencosud’s debt presents certain risks to the business. While this debt may increase returns, we believe the company now has sufficient leverage. The balance sheet is clearly the area you need to focus on when analyzing debt. However, not all investment risks lie on the balance sheet – far from it. Note that Cencosud displays 1 warning sign in our investment analysis , you must know…
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.
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