Is Cresco Labs (CSE:CL) A Risky Investment?

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. Importantly, Cresco Labs Inc. (CSE:CL) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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

See our latest analysis for Cresco Labs

How Much Debt Does Cresco Labs Carry?

As you can see below, Cresco Labs had US$424.9m of debt, at September 2024, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has US$153.3m in cash leading to net debt of about US$271.6m.

A Look At Cresco Labs' Liabilities

The latest balance sheet data shows that Cresco Labs had liabilities of US$158.6m due within a year, and liabilities of US$859.0m falling due after that. Offsetting this, it had US$153.3m in cash and US$55.1m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$809.2m.

This deficit casts a shadow over the US$387.2m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Cresco Labs would likely require a major re-capitalisation if it had to pay its creditors today.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). 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).

Cresco Labs has a very low debt to EBITDA ratio of 1.5 so it is strange to see weak interest coverage, with last year's EBIT being only 2.1 times the interest expense. So one way or the other, it's clear the debt levels are not trivial. Notably, Cresco Labs's EBIT launched higher than Elon Musk, gaining a whopping 246% on last year. 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 Cresco Labs'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Cresco Labs reported free cash flow worth 14% of its EBIT, which is really quite low. That limp level of cash conversion undermines its ability to manage and pay down debt.

Our View

On the face of it, Cresco Labs's interest cover left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. But on the bright side, its EBIT growth rate is a good sign, and makes us more optimistic. Overall, we think it's fair to say that Cresco Labs has enough debt that there are some real risks around the balance sheet. If everything goes well that may pay off but the downside of this debt is a greater risk of permanent losses. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example - Cresco Labs has 2 warning signs we think 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.