Grendene (BVMF: GRND3) has a fairly healthy track record
Warren Buffett said: “Volatility is far from synonymous with risk”. It’s 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 Grendene SA (BVMF: GRND3) uses debt. But should shareholders be concerned about its use of debt?
When is debt dangerous?
Debts and other liabilities become risky for a business when it cannot easily meet these obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. While it’s not too common, we often see indebted companies continually diluting their shareholders because lenders are forcing them to raise capital at a ridiculous price. Of course, debt can be an important tool in businesses, especially capital intensive businesses. When we look at debt levels, we first look at cash and debt levels, together.
Check out our latest analysis for Grendene
How much debt does Grendene have?
The image below, which you can click for more details, shows Grendene owed R $ 11.2million at the end of September 2021, down from R $ 14.0million over one year. But on the other hand, he also has 1.56 billion reais in cash, which leads to a net cash position of 1.55 billion reais.
How strong is Grendene’s balance sheet?
The latest balance sheet data shows that Grendene had debts of R $ 275.2 million due within one year and debts of R $ 85.7 million due after that. In return, he had 1.56 billion reais in cash and 1.06 billion reais in debts due within 12 months. He can therefore boast of having R $ 2.26 billion more in liquid assets than total Liabilities.
This surplus suggests that Grendene is using the debt in a way that seems both safe and conservative. Because he has a lot of assets, he is unlikely to have any problems with his lenders. Simply put, the fact that Grendene has more cash than debt is arguably a good indication that she can safely manage her debt.
On the other hand, Grendene’s EBIT has plunged 10% over the past year. If this rate of decline in profits continues, the company could find itself in a difficult position. When analyzing debt levels, the balance sheet is the obvious place to start. But it is future profits, more than anything, that will determine Grendene’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.
Finally, a business can only pay off its debts with hard cash, not with book profits. Grendene may have net cash on the balance sheet, but it’s always interesting to see how well the business converts its earnings before interest and taxes (EBIT) into free cash flow, as this will influence both its need and its ability to manage debt. Over the past three years, Grendene has generated strong free cash flow equivalent to 67% of its EBIT, roughly what we expected. This hard cash allows him to reduce his debt whenever he wants.
While we sympathize with investors who find the debt of concern, you should keep in mind that Grendene has R $ 1.55 billion in net cash, as well as more liquid assets than liabilities. The icing on the cake was that he converted 67% of that EBIT into free cash flow, making 178 million reais. So we don’t think Grendene’s use of debt is risky. The balance sheet is clearly the area to focus on when analyzing debt. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, we have identified 3 warning signs for Grendene (2 are a bit rude) you should be aware of.
At the end of the day, it’s often best to focus on businesses that don’t have net debt. You can access our special list of these companies (all with a history of profit growth). It’s free.
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