Here's Why Südzucker (ETR:SZU) Can Afford Some Debt

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. So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Südzucker AG (ETR:SZU) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

View 1 warning sign we detected for Südzucker

How Much Debt Does Südzucker Carry?

As you can see below, at the end of August 2019, Südzucker had €1.65b of debt, up from €1.5k a year ago. Click the image for more detail. On the flip side, it has €586.5m in cash leading to net debt of about €1.07b.

A Look At Südzucker's Liabilities

Zooming in on the latest balance sheet data, we can see that Südzucker had liabilities of €1.34b due within 12 months and liabilities of €2.81b due beyond that. On the other hand, it had cash of €586.5m and €1.12b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by €2.45b.

This deficit is considerable relative to its market capitalization of €3.19b, so it does suggest shareholders should keep an eye on Südzucker's use of debt. This suggests shareholders would heavily diluted if the company needed to shore up its balance sheet in a hurry. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 1 warning sign for Südzucker (of which 1 is major) which any shareholder or potential investor should be aware of.

In the last year Südzucker had negative earnings before interest and tax, and actually shrunk its revenue by 5.3%, to €6.6b. That's not what we would hope to see.

Caveat Emptor

Over the last twelve months Südzucker produced an earnings before interest and tax (EBIT) loss. To be specific the EBIT loss came in at €70m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through €222m of cash over the last year. So suffice it to say we consider the stock very risky. For riskier companies like Südzucker I always like to keep an eye on the long term profit and revenue trends. Fortunately, you can click to see our interactive graph of its profit, revenue, and operating cashflow.

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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