Is Adocia (EPA:ADOC) Using Debt In A Risky Way?

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.' 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 can see that Adocia SA (EPA:ADOC) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. 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. 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.

View our latest analysis for Adocia

How Much Debt Does Adocia Carry?

The image below, which you can click on for greater detail, shows that at June 2020 Adocia had debt of €20.6m, up from €8.09m in one year. But it also has €35.9m in cash to offset that, meaning it has €15.3m net cash.

How Healthy Is Adocia's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Adocia had liabilities of €10.9m due within 12 months and liabilities of €22.8m due beyond that. Offsetting this, it had €35.9m in cash and €4.18m in receivables that were due within 12 months. So it actually has €6.31m more liquid assets than total liabilities.

This short term liquidity is a sign that Adocia could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Adocia boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Adocia'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.

In the last year Adocia had a loss before interest and tax, and actually shrunk its revenue by 69%, to €7.0m. To be frank that doesn't bode well.

So How Risky Is Adocia?

Although Adocia had an earnings before interest and tax (EBIT) loss over the last twelve months, it generated positive free cash flow of €555k. So although it is loss-making, it doesn't seem to have too much near-term balance sheet risk, keeping in mind the net cash. We'll feel more comfortable with the stock once EBIT is positive, given the lacklustre revenue growth. 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 instance, we've identified 2 warning signs for Adocia that you should be aware of.

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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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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