These 4 Measures Indicate That KEO (CSE:KEO) Is Using Debt Reasonably Well

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.' 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, KEO plc (CSE:KEO) does carry debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for KEO

How Much Debt Does KEO Carry?

You can click the graphic below for the historical numbers, but it shows that KEO had €4.34m of debt in December 2020, down from €5.97m, one year before. However, it does have €9.25m in cash offsetting this, leading to net cash of €4.91m.

A Look At KEO's Liabilities

Zooming in on the latest balance sheet data, we can see that KEO had liabilities of €8.49m due within 12 months and liabilities of €7.50m due beyond that. On the other hand, it had cash of €9.25m and €9.90m worth of receivables due within a year. So it can boast €3.16m more liquid assets than total liabilities.

This surplus suggests that KEO has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, KEO boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for KEO if management cannot prevent a repeat of the 86% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since KEO will need earnings to service that debt. 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. KEO may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, KEO generated free cash flow amounting to a very robust 82% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing up

While it is always sensible to investigate a company's debt, in this case KEO has €4.91m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of €3.0m, being 82% of its EBIT. So we are not troubled with KEO's debt use. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 4 warning signs for KEO that you should be aware of before investing here.

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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