Ecofibre (ASX:EOF) Has Debt But No Earnings; Should You Worry?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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, Ecofibre Limited (ASX:EOF) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. If things get really bad, the lenders can take control of the business. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Ecofibre

What Is Ecofibre's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 Ecofibre had AU$10.0m of debt, an increase on none, over one year. However, it does have AU$13.5m in cash offsetting this, leading to net cash of AU$3.50m.

How Strong Is Ecofibre's Balance Sheet?

According to the last reported balance sheet, Ecofibre had liabilities of AU$7.70m due within 12 months, and liabilities of AU$22.5m due beyond 12 months. Offsetting these obligations, it had cash of AU$13.5m as well as receivables valued at AU$5.71m due within 12 months. So its liabilities total AU$11.0m more than the combination of its cash and short-term receivables.

Of course, Ecofibre has a market capitalization of AU$389.0m, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, Ecofibre boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Ecofibre'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, Ecofibre made a loss at the EBIT level, and saw its revenue drop to AU$36m, which is a fall of 29%. That makes us nervous, to say the least.

So How Risky Is Ecofibre?

Although Ecofibre had an earnings before interest and tax (EBIT) loss over the last twelve months, it made a statutory profit of AU$532k. So taking that on face value, and considering the cash, we don't think its very risky in the near term. With revenue growth uninspiring, we'd really need to see some positive EBIT before mustering much enthusiasm for this business. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for Ecofibre (of which 1 is a bit unpleasant!) 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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