Chalice Brands (CSE:CHAL) Is Making Moderate Use Of Debt

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. We can see that Chalice Brands Ltd. (CSE:CHAL) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. 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.

Check out our latest analysis for Chalice Brands

How Much Debt Does Chalice Brands Carry?

The chart below, which you can click on for greater detail, shows that Chalice Brands had US$4.85m in debt in June 2021; about the same as the year before. However, it does have US$1.83m in cash offsetting this, leading to net debt of about US$3.02m.

How Strong Is Chalice Brands' Balance Sheet?

According to the last reported balance sheet, Chalice Brands had liabilities of US$7.86m due within 12 months, and liabilities of US$21.4m due beyond 12 months. Offsetting these obligations, it had cash of US$1.83m as well as receivables valued at US$2.06m due within 12 months. So its liabilities total US$25.4m more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of US$40.3m, so it does suggest shareholders should keep an eye on Chalice Brands' use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Chalice Brands can strengthen its balance sheet over time. 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 Chalice Brands wasn't profitable at an EBIT level, but managed to grow its revenue by 34%, to US$24m. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

Despite the top line growth, Chalice Brands still had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost US$3.0m 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. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled US$2.0m in negative free cash flow over the last twelve months. So to be blunt we think it is risky. 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. For instance, we've identified 4 warning signs for Chalice Brands (1 makes us a bit uncomfortable) you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

If you're looking for stocks to buy, use the lowest-cost* platform that is rated #1 Overall by Barron’s, Interactive Brokers. Trade stocks, options, futures, forex, bonds and funds on 135 markets, all from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.