Is KRM22 (LON:KRM) 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 note that KRM22 Plc (LON:KRM) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. When we think about a company's use of debt, we first look at cash and debt together.

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What Is KRM22's Debt?

The image below, which you can click on for greater detail, shows that at June 2022 KRM22 had debt of UK£2.91m, up from UK£2.76m in one year. However, it does have UK£3.56m in cash offsetting this, leading to net cash of UK£643.0k.

How Healthy Is KRM22's Balance Sheet?

We can see from the most recent balance sheet that KRM22 had liabilities of UK£3.68m falling due within a year, and liabilities of UK£3.31m due beyond that. Offsetting these obligations, it had cash of UK£3.56m as well as receivables valued at UK£683.0k due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by UK£2.75m.

Given KRM22 has a market capitalization of UK£16.9m, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, KRM22 boasts net cash, so it's fair to say it does not have a heavy debt load! The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since KRM22 will need earnings to service that debt. 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.

In the last year KRM22 had a loss before interest and tax, and actually shrunk its revenue by 12%, to UK£3.9m. We would much prefer see growth.

So How Risky Is KRM22?

Statistically speaking companies that lose money are riskier than those that make money. And the fact is that over the last twelve months KRM22 lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through UK£1.8m of cash and made a loss of UK£2.8m. Given it only has net cash of UK£643.0k, the company may need to raise more capital if it doesn't reach break-even soon. Summing up, we're a little skeptical of this one, as it seems fairly risky in the absence of free cashflow. 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. For example, we've discovered 3 warning signs for KRM22 that you should be aware of before investing here.

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.

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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.