We Think Tallinna Kaubamaja Grupp (TAL:TKM1T) Is Taking Some Risk With Its Debt

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. We note that Tallinna Kaubamaja Grupp AS (TAL:TKM1T) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. 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, 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 Tallinna Kaubamaja Grupp

What Is Tallinna Kaubamaja Grupp's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2021 Tallinna Kaubamaja Grupp had €127.2m of debt, an increase on €117.7m, over one year. However, it does have €26.1m in cash offsetting this, leading to net debt of about €101.1m.

How Healthy Is Tallinna Kaubamaja Grupp's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Tallinna Kaubamaja Grupp had liabilities of €174.6m due within 12 months and liabilities of €227.1m due beyond that. Offsetting these obligations, it had cash of €26.1m as well as receivables valued at €12.8m due within 12 months. So its liabilities total €362.8m more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of €382.4m, so it does suggest shareholders should keep an eye on Tallinna Kaubamaja Grupp's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Tallinna Kaubamaja Grupp's debt is 2.5 times its EBITDA, and its EBIT cover its interest expense 5.9 times over. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Shareholders should be aware that Tallinna Kaubamaja Grupp's EBIT was down 25% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Tallinna Kaubamaja Grupp will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Tallinna Kaubamaja Grupp actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

Neither Tallinna Kaubamaja Grupp's ability to grow its EBIT nor its level of total liabilities gave us confidence in its ability to take on more debt. But the good news is it seems to be able to convert EBIT to free cash flow with ease. Taking the abovementioned factors together we do think Tallinna Kaubamaja Grupp's debt poses some risks to the business. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. 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. We've identified 4 warning signs with Tallinna Kaubamaja Grupp (at least 1 which is a bit unpleasant) , and understanding them should be part of your investment process.

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. 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.
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