Is BluMetric Environmental (CVE:BLM) A Risky Investment?

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 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 BluMetric Environmental Inc. (CVE:BLM) makes use of debt. But the real question is whether this debt is making the company risky.

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. 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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for BluMetric Environmental

What Is BluMetric Environmental's Debt?

You can click the graphic below for the historical numbers, but it shows that BluMetric Environmental had CA$2.69m of debt in September 2020, down from CA$3.66m, one year before. However, because it has a cash reserve of CA$2.47m, its net debt is less, at about CA$215.1k.

How Strong Is BluMetric Environmental's Balance Sheet?

According to the last reported balance sheet, BluMetric Environmental had liabilities of CA$8.48m due within 12 months, and liabilities of CA$964.2k due beyond 12 months. Offsetting these obligations, it had cash of CA$2.47m as well as receivables valued at CA$10.0m due within 12 months. So it actually has CA$3.04m more liquid assets than total liabilities.

This excess liquidity is a great indication that BluMetric Environmental's balance sheet is almost as strong as Fort Knox. With this in mind one could posit that its balance sheet means the company is able to handle some adversity.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

With net debt at just 0.089 times EBITDA, it seems BluMetric Environmental only uses a little bit of leverage. Although with EBIT only covering interest expenses 4.6 times over, the company is truly paying for borrowing. Pleasingly, BluMetric Environmental is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 145% gain in the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But it is BluMetric Environmental's earnings that will influence how the balance sheet holds up in the future. 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, BluMetric Environmental produced sturdy free cash flow equating to 77% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

The good news is that BluMetric Environmental's demonstrated ability to grow its EBIT delights us like a fluffy puppy does a toddler. And that's just the beginning of the good news since its net debt to EBITDA is also very heartening. We think BluMetric Environmental is no more beholden to its lenders, than the birds are to birdwatchers. For investing nerds like us its balance sheet is almost charming. 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. To that end, you should learn about the 4 warning signs we've spotted with BluMetric Environmental (including 1 which is a bit concerning) .

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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