Here's Why Enthusiast Gaming Holdings (TSE:EGLX) Can Afford Some Debt

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.' 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 Enthusiast Gaming Holdings Inc. (TSE:EGLX) makes use of debt. 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. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, plenty of companies use debt to fund growth, without any negative consequences. 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 Enthusiast Gaming Holdings

What Is Enthusiast Gaming Holdings's Debt?

The image below, which you can click on for greater detail, shows that at September 2022 Enthusiast Gaming Holdings had debt of CA$18.7m, up from CA$9.91m in one year. However, it also had CA$15.9m in cash, and so its net debt is CA$2.75m.

How Healthy Is Enthusiast Gaming Holdings' Balance Sheet?

We can see from the most recent balance sheet that Enthusiast Gaming Holdings had liabilities of CA$44.7m falling due within a year, and liabilities of CA$45.0m due beyond that. Offsetting this, it had CA$15.9m in cash and CA$37.9m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$35.8m.

Enthusiast Gaming Holdings has a market capitalization of CA$129.9m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Enthusiast Gaming Holdings'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.

In the last year Enthusiast Gaming Holdings wasn't profitable at an EBIT level, but managed to grow its revenue by 35%, to CA$206m. Shareholders probably have their fingers crossed that it can grow its way to profits.

Caveat Emptor

Even though Enthusiast Gaming Holdings managed to grow its top line quite deftly, the cold hard truth is that it is losing money on the EBIT line. Indeed, it lost a very considerable CA$48m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. Another cause for caution is that is bled CA$17m in negative free cash flow over the last twelve months. So in short it's a really risky stock. 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. Case in point: We've spotted 4 warning signs for Enthusiast Gaming Holdings 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.