Does Retail Food Group (ASX:RFG) Have A Healthy Balance Sheet?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Retail Food Group Limited (ASX:RFG) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Retail Food Group

What Is Retail Food Group's Net Debt?

The image below, which you can click on for greater detail, shows that Retail Food Group had debt of AU$55.5m at the end of June 2020, a reduction from AU$267.1m over a year. On the flip side, it has AU$40.2m in cash leading to net debt of about AU$15.3m.

A Look At Retail Food Group's Liabilities

Zooming in on the latest balance sheet data, we can see that Retail Food Group had liabilities of AU$120.3m due within 12 months and liabilities of AU$227.6m due beyond that. Offsetting these obligations, it had cash of AU$40.2m as well as receivables valued at AU$51.0m due within 12 months. So its liabilities total AU$256.7m more than the combination of its cash and short-term receivables.

When you consider that this deficiency exceeds the company's AU$186.6m market capitalization, you might well be inclined to review the balance sheet intently. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Retail Food Group will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

In the last year Retail Food Group had a loss before interest and tax, and actually shrunk its revenue by 15%, to AU$225m. That's not what we would hope to see.

Caveat Emptor

While Retail Food Group's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at AU$6.4m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it burned through AU$5.9m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. 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 Retail Food Group is showing 3 warning signs in our investment analysis , you should know about...

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. 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.
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