Health Check: How Prudently Does Liwe Española (BDM:LIW) Use Debt?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. As with many other companies Liwe Española, S.A. (BDM:LIW) makes use of debt. But the real question is whether this debt is making the company risky.

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Liwe Española

What Is Liwe Española's Debt?

The image below, which you can click on for greater detail, shows that at December 2020 Liwe Española had debt of €61.4m, up from €45.7m in one year. On the flip side, it has €9.38m in cash leading to net debt of about €52.0m.

How Strong Is Liwe Española's Balance Sheet?

We can see from the most recent balance sheet that Liwe Española had liabilities of €62.2m falling due within a year, and liabilities of €111.2m due beyond that. Offsetting this, it had €9.38m in cash and €2.16m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €161.8m.

This deficit casts a shadow over the €11.5m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Liwe Española would likely require a major re-capitalisation if it had to pay its creditors today. There's no doubt that we learn most about debt from the balance sheet. But it is Liwe Española's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Liwe Española made a loss at the EBIT level, and saw its revenue drop to €102m, which is a fall of 30%. That makes us nervous, to say the least.

Caveat Emptor

While Liwe Española's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable €11m at the EBIT level. When you combine this with the very significant balance sheet liabilities mentioned above, we are so wary of it that we are basically at a loss for the right words. Like every long-shot we're sure it has a glossy presentation outlining its blue-sky potential. But the reality is that it is low on liquid assets relative to liabilities, and it lost €25m in the last year. So we're not very excited about owning this stock. Its too risky for us. 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. We've identified 4 warning signs with Liwe Española (at least 2 which are potentially serious) , and understanding them should be part of your investment process.

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.

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