Here's Why Eckoh (LON:ECK) Can Manage Its Debt Responsibly

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 note that Eckoh plc (LON:ECK) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. 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 Eckoh

What Is Eckoh's Net Debt?

The image below, which you can click on for greater detail, shows that Eckoh had debt of UK£1.95m at the end of September 2020, a reduction from UK£2.60m over a year. But on the other hand it also has UK£14.8m in cash, leading to a UK£12.9m net cash position.

How Healthy Is Eckoh's Balance Sheet?

The latest balance sheet data shows that Eckoh had liabilities of UK£19.9m due within a year, and liabilities of UK£1.27m falling due after that. Offsetting these obligations, it had cash of UK£14.8m as well as receivables valued at UK£12.3m due within 12 months. So it actually has UK£6.01m more liquid assets than total liabilities.

This short term liquidity is a sign that Eckoh could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Eckoh boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Eckoh's EBIT dived 17%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Eckoh's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Eckoh 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. Over the last three years, Eckoh actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Eckoh has net cash of UK£12.9m, as well as more liquid assets than liabilities. The cherry on top was that in converted 212% of that EBIT to free cash flow, bringing in UK£4.5m. So we are not troubled with Eckoh's debt use. We'd be motivated to research the stock further if we found out that Eckoh insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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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