Is Interwood-Xylemporia A.T.E.N.E (ATH:XYLEK) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that Interwood-Xylemporia A.T.E.N.E. (ATH:XYLEK) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Interwood-Xylemporia A.T.E.N.E

What Is Interwood-Xylemporia A.T.E.N.E's Debt?

You can click the graphic below for the historical numbers, but it shows that Interwood-Xylemporia A.T.E.N.E had €30.6m of debt in June 2020, down from €34.2m, one year before. And it doesn't have much cash, so its net debt is about the same.

How Strong Is Interwood-Xylemporia A.T.E.N.E's Balance Sheet?

According to the last reported balance sheet, Interwood-Xylemporia A.T.E.N.E had liabilities of €20.4m due within 12 months, and liabilities of €16.8m due beyond 12 months. Offsetting these obligations, it had cash of €289.6k as well as receivables valued at €18.5m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €18.4m.

The deficiency here weighs heavily on the €5.42m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Interwood-Xylemporia A.T.E.N.E would likely require a major re-capitalisation if it had to pay its creditors today.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Interwood-Xylemporia A.T.E.N.E shareholders face the double whammy of a high net debt to EBITDA ratio (25.4), and fairly weak interest coverage, since EBIT is just 0.49 times the interest expense. This means we'd consider it to have a heavy debt load. Worse, Interwood-Xylemporia A.T.E.N.E's EBIT was down 25% over the last year. If earnings continue to follow that trajectory, paying off that debt load will be harder than convincing us to run a marathon in the rain. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Interwood-Xylemporia A.T.E.N.E 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Looking at the most recent three years, Interwood-Xylemporia A.T.E.N.E recorded free cash flow of 42% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

To be frank both Interwood-Xylemporia A.T.E.N.E's EBIT growth rate and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. Having said that, its ability to convert EBIT to free cash flow isn't such a worry. We think the chances that Interwood-Xylemporia A.T.E.N.E has too much debt a very significant. To us, that makes the stock rather risky, like walking through a dog park with your eyes closed. But some investors may feel differently. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 1 warning sign we've spotted with Interwood-Xylemporia A.T.E.N.E .

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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