Is Pro-Pac Packaging (ASX:PPG) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Pro-Pac Packaging Limited (ASX:PPG) makes use of debt. But is this debt a concern to shareholders?

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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Pro-Pac Packaging

What Is Pro-Pac Packaging's Debt?

You can click the graphic below for the historical numbers, but it shows that Pro-Pac Packaging had AU$19.5m of debt in December 2022, down from AU$83.7m, one year before. However, it does have AU$3.13m in cash offsetting this, leading to net debt of about AU$16.3m.

How Strong Is Pro-Pac Packaging's Balance Sheet?

The latest balance sheet data shows that Pro-Pac Packaging had liabilities of AU$106.2m due within a year, and liabilities of AU$33.3m falling due after that. Offsetting these obligations, it had cash of AU$3.13m as well as receivables valued at AU$79.3m due within 12 months. So its liabilities total AU$57.1m more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of AU$67.2m, so it does suggest shareholders should keep an eye on Pro-Pac Packaging's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Pro-Pac Packaging'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.

Over 12 months, Pro-Pac Packaging reported revenue of AU$400m, which is a gain of 23%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

While we can certainly appreciate Pro-Pac Packaging's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Its EBIT loss was a whopping AU$14m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much 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$5.5m of cash over the last year. So suffice it to say we consider the stock very risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 3 warning signs for Pro-Pac Packaging (2 can't be ignored) you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.