Seafarms Group (ASX:SFG) Has Debt But No Earnings; Should You Worry?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Seafarms Group Limited (ASX:SFG) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Seafarms Group

What Is Seafarms Group's Debt?

As you can see below, Seafarms Group had AU$5.74m of debt at December 2021, down from AU$21.3m a year prior. But on the other hand it also has AU$70.0m in cash, leading to a AU$64.2m net cash position.

A Look At Seafarms Group's Liabilities

According to the last reported balance sheet, Seafarms Group had liabilities of AU$23.3m due within 12 months, and liabilities of AU$18.3m due beyond 12 months. Offsetting this, it had AU$70.0m in cash and AU$5.56m in receivables that were due within 12 months. So it can boast AU$33.9m more liquid assets than total liabilities.

This surplus suggests that Seafarms Group is using debt in a way that is appears to be both safe and conservative. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Simply put, the fact that Seafarms Group has more cash than debt is arguably a good indication that it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Seafarms 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 Seafarms Group had a loss before interest and tax, and actually shrunk its revenue by 2.4%, to AU$21m. We would much prefer see growth.

So How Risky Is Seafarms Group?

We have no doubt that loss making companies are, in general, riskier than profitable ones. And in the last year Seafarms Group had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of AU$45m and booked a AU$50m accounting loss. Given it only has net cash of AU$64.2m, the company may need to raise more capital if it doesn't reach break-even soon. Overall, its balance sheet doesn't seem overly risky, at the moment, but we're always cautious until we see the positive free cash flow. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Seafarms Group you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.