Sanok Rubber Company Spólka Akcyjna (WSE:SNK) Seems To Use Debt Rather Sparingly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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 Sanok Rubber Company Spólka Akcyjna (WSE:SNK) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Sanok Rubber Company Spólka Akcyjna

How Much Debt Does Sanok Rubber Company Spólka Akcyjna Carry?

You can click the graphic below for the historical numbers, but it shows that Sanok Rubber Company Spólka Akcyjna had zł156.3m of debt in December 2023, down from zł199.1m, one year before. However, it also had zł124.5m in cash, and so its net debt is zł31.8m.

How Healthy Is Sanok Rubber Company Spólka Akcyjna's Balance Sheet?

According to the last reported balance sheet, Sanok Rubber Company Spólka Akcyjna had liabilities of zł277.8m due within 12 months, and liabilities of zł158.9m due beyond 12 months. Offsetting these obligations, it had cash of zł124.5m as well as receivables valued at zł192.6m due within 12 months. So it has liabilities totalling zł119.6m more than its cash and near-term receivables, combined.

Since publicly traded Sanok Rubber Company Spólka Akcyjna shares are worth a total of zł631.0m, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Sanok Rubber Company Spólka Akcyjna has a low net debt to EBITDA ratio of only 0.22. And its EBIT covers its interest expense a whopping 20.3 times over. So we're pretty relaxed about its super-conservative use of debt. Another good sign is that Sanok Rubber Company Spólka Akcyjna has been able to increase its EBIT by 20% in twelve months, making it easier 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 Sanok Rubber Company Spólka Akcyjna'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. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Sanok Rubber Company Spólka Akcyjna generated free cash flow amounting to a very robust 90% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Our View

Happily, Sanok Rubber Company Spólka Akcyjna's impressive interest cover implies it has the upper hand on its debt. And that's just the beginning of the good news since its conversion of EBIT to free cash flow is also very heartening. Considering this range of factors, it seems to us that Sanok Rubber Company Spólka Akcyjna is quite prudent with its debt, and the risks seem well managed. So the balance sheet looks pretty healthy, to us. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Sanok Rubber Company Spólka Akcyjna is showing 2 warning signs in our investment analysis , and 1 of those is a bit concerning...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.