Would Food Revolution Group (ASX:FOD) Be Better Off With Less 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.' 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 note that The Food Revolution Group Limited (ASX:FOD) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. 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. 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.

Check out our latest analysis for Food Revolution Group

What Is Food Revolution Group's Net Debt?

As you can see below, Food Revolution Group had AU$5.21m of debt at June 2022, down from AU$6.40m a year prior. However, because it has a cash reserve of AU$910.0k, its net debt is less, at about AU$4.30m.

How Healthy Is Food Revolution Group's Balance Sheet?

According to the last reported balance sheet, Food Revolution Group had liabilities of AU$8.15m due within 12 months, and liabilities of AU$14.2m due beyond 12 months. Offsetting these obligations, it had cash of AU$910.0k as well as receivables valued at AU$1.60m due within 12 months. So it has liabilities totalling AU$19.9m more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of AU$28.4m. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Food Revolution 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 Food Revolution Group wasn't profitable at an EBIT level, but managed to grow its revenue by 4.0%, to AU$35m. We usually like to see faster growth from unprofitable companies, but each to their own.

Caveat Emptor

Over the last twelve months Food Revolution Group produced an earnings before interest and tax (EBIT) loss. Indeed, it lost AU$2.3m at the EBIT level. 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. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through AU$1.7m of cash over the last year. So in short it's a really risky stock. 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. To that end, you should learn about the 4 warning signs we've spotted with Food Revolution Group (including 2 which are potentially serious) .

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.