We Think Viking Line Abp (HEL:VIK1V) Is Taking Some Risk With Its 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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Viking Line Abp (HEL:VIK1V) does use debt in its business. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Viking Line Abp

How Much Debt Does Viking Line Abp Carry?

As you can see below, Viking Line Abp had €223.0m of debt at December 2022, down from €273.4m a year prior. However, it does have €89.0m in cash offsetting this, leading to net debt of about €134.0m.

How Healthy Is Viking Line Abp's Balance Sheet?

We can see from the most recent balance sheet that Viking Line Abp had liabilities of €112.2m falling due within a year, and liabilities of €226.8m due beyond that. Offsetting these obligations, it had cash of €89.0m as well as receivables valued at €36.8m due within 12 months. So it has liabilities totalling €213.2m more than its cash and near-term receivables, combined.

This deficit is considerable relative to its market capitalization of €283.4m, so it does suggest shareholders should keep an eye on Viking Line Abp'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). 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).

Viking Line Abp has a debt to EBITDA ratio of 2.9 and its EBIT covered its interest expense 4.4 times. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. The silver lining is that Viking Line Abp grew its EBIT by 1,393% last year, which nourishing like the idealism of youth. If that earnings trend continues it will make its debt load much more manageable in the future. When analysing debt levels, the balance sheet is the obvious place to start. But it is Viking Line Abp's earnings that will influence how the balance sheet holds up in the future. 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last two years, Viking Line Abp saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

Neither Viking Line Abp's ability to convert EBIT to free cash flow nor its level of total liabilities gave us confidence in its ability to take on more debt. But its EBIT growth rate tells a very different story, and suggests some resilience. Taking the abovementioned factors together we do think Viking Line Abp's debt poses some risks to the business. While that debt can boost returns, we think the company has enough leverage now. 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 Viking Line Abp (at least 1 which is significant) , and understanding them should be part of your investment process.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.