Is Dassault Aviation (EPA:AM) Using Too Much Debt?
The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Dassault Aviation SA (EPA:AM) does use debt in its business. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
View our latest analysis for Dassault Aviation
What Is Dassault Aviation's Net Debt?
You can click the graphic below for the historical numbers, but it shows that Dassault Aviation had €995.5m of debt in December 2018, down from €1.10b, one year before. However, it does have €6.20b in cash offsetting this, leading to net cash of €5.21b.
How Strong Is Dassault Aviation's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Dassault Aviation had liabilities of €12.4b due within 12 months and liabilities of €335.3m due beyond that. Offsetting this, it had €6.20b in cash and €979.4m in receivables that were due within 12 months. So it has liabilities totalling €5.59b more than its cash and near-term receivables, combined.
While this might seem like a lot, it is not so bad since Dassault Aviation has a huge market capitalization of €10.4b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, Dassault Aviation boasts net cash, so it's fair to say it does not have a heavy debt load!
Also relevant is that Dassault Aviation has grown its EBIT by a very respectable 22% in the last year, thus enhancing its ability to pay down debt. 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 Dassault Aviation'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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Dassault Aviation has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Dassault Aviation actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.
Summing up
Although Dassault Aviation's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of €5.2b. And it impressed us with free cash flow of €1.1b, being 304% of its EBIT. So we are not troubled with Dassault Aviation's debt use. 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 Dassault Aviation's earnings per share history for free.
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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