Is Canopy Growth (TSE:WEED) Using Too Much 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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Canopy Growth Corporation (TSE:WEED) does carry debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Canopy Growth

What Is Canopy Growth's Net Debt?

As you can see below, Canopy Growth had CA$1.21b of debt at December 2022, down from CA$1.51b a year prior. However, because it has a cash reserve of CA$797.0m, its net debt is less, at about CA$408.6m.

A Look At Canopy Growth's Liabilities

According to the last reported balance sheet, Canopy Growth had liabilities of CA$678.7m due within 12 months, and liabilities of CA$901.7m due beyond 12 months. Offsetting these obligations, it had cash of CA$797.0m as well as receivables valued at CA$104.6m due within 12 months. So it has liabilities totalling CA$678.8m more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Canopy Growth has a market capitalization of CA$1.25b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Canopy Growth'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, Canopy Growth made a loss at the EBIT level, and saw its revenue drop to CA$441m, which is a fall of 21%. That makes us nervous, to say the least.

Caveat Emptor

Not only did Canopy Growth's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping CA$507m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled CA$559m 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. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - Canopy Growth has 2 warning signs we think you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.