Here’s why Kerry Group (ISE:KRZ) can manage its debt responsibly

Berkshire Hathaway’s Charlie Munger-backed outside fund manager Li Lu is quick to say, “The biggest risk in investing isn’t price volatility, but whether you’re going to suffer a permanent loss of capital “. So it may be obvious that you need to take debt into account when thinking about the risk of a given stock, because too much debt can sink a business. Above all, Kerry Group plc (ISE:KRZ) is in debt. But should shareholders worry about its use of debt?

What risk does debt carry?

Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, it exists at their mercy. If things go really bad, lenders can take over the business. However, a more common (but still costly) situation is when a company has to dilute shareholders at a cheap share price just to keep debt under control. That said, the most common situation is when a company manages its debt reasonably well – and to its own benefit. When we look at debt levels, we first consider cash and debt levels, together.

See our latest analysis for Kerry Group

What is the debt of the Kerry group?

The image below, which you can click on for more details, shows that in December 2021, the Kerry Group had a debt of 3.12 billion euros, compared to 2.51 billion euros in one year . However, since it has a cash reserve of 1.04 billion euros, its net debt is less, at around 2.08 billion euros.

ISE: KRZ Debt to Equity History April 16, 2022

A look at the liabilities of the Kerry Group

We can see from the most recent balance sheet that the Kerry Group had liabilities of €2.00 billion due in one year, and liabilities of €3.80 billion due beyond. On the other hand, it had 1.04 billion euros in cash and 1.18 billion euros in receivables at less than one year. Thus, its liabilities outweigh the sum of its cash and (short-term) receivables by €3.57 billion.

Given that the Kerry Group has a colossal market cap of €18.1 billion, it’s hard to believe that these liabilities pose a threat. However, we think it’s worth keeping an eye on the strength of its balance sheet, as it can change over time.

We measure a company’s leverage against its earning power 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 charge (interest coverage). The advantage of this approach is that we consider both the absolute amount of debt (with net debt to EBITDA) and the actual interest expense associated with that debt (with its interest coverage ratio ).

We would say that the Kerry Group’s moderate net debt to EBITDA ratio (2.1) indicates prudence in terms of leverage. And its strong interest coverage of 11.3 times puts us even more at ease. We have seen Kerry Group increase its EBIT by 8.2% over the last twelve months. While that barely brings us down, it’s a positive when it comes to debt. There is no doubt that we learn the most about debt from the balance sheet. But ultimately, the company’s future profitability will decide whether the Kerry Group can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.

Finally, a company can only repay its debts with cold hard cash, not with book profits. We must therefore clearly examine whether this EBIT generates a corresponding free cash flow. Over the past three years, the Kerry Group has produced strong free cash flow equivalent to 51% of its EBIT, which is what we expected. This free cash flow puts the company in a good position to repay its debt, should it arise.

Our point of view

The good news is that Kerry Group’s demonstrated ability to cover its interest charges with its EBIT delights us like a fluffy puppy does a toddler. And its EBIT growth rate is also good. Looking at all of the above factors together, it seems to us that the Kerry Group can manage its debt quite comfortably. On the plus side, this leverage can increase shareholder returns, but the potential downside is greater risk of loss, so it’s worth keeping an eye on the balance sheet. Of course, we wouldn’t say no to the extra confidence we’d gain if we knew Kerry Group insiders were buying shares: if you’re on the same page, you can find out if insiders are buying by clicking this link.

Of course, if you’re the type of investor who prefers to buy stocks without the burden of debt, then feel free to check out our exclusive list of cash-efficient growth stocks today.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.

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