Is Skyline Investments (TLV:SKLN) Using Debt Sensibly?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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 Skyline Investments Inc. (TLV:SKLN) does use debt in its business. But the more important question is: how much risk is that debt creating?

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. 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. 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.

See our latest analysis for Skyline Investments

What Is Skyline Investments's Net Debt?

The chart below, which you can click on for greater detail, shows that Skyline Investments had CA$294.7m in debt in December 2020; about the same as the year before. However, it does have CA$22.4m in cash offsetting this, leading to net debt of about CA$272.2m.

A Look At Skyline Investments' Liabilities

We can see from the most recent balance sheet that Skyline Investments had liabilities of CA$75.4m falling due within a year, and liabilities of CA$306.1m due beyond that. Offsetting this, it had CA$22.4m in cash and CA$29.2m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$329.7m.

The deficiency here weighs heavily on the CA$92.3m 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 definitely think shareholders need to watch this one closely. At the end of the day, Skyline Investments would probably need a major re-capitalization if its creditors were to demand repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Skyline Investments's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Skyline Investments made a loss at the EBIT level, and saw its revenue drop to CA$129m, which is a fall of 45%. That makes us nervous, to say the least.

Caveat Emptor

Not only did Skyline Investments's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost a very considerable CA$14m at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. Nevertheless, we would not bet on it given that it vaporized CA$16m in cash over the last twelve months, and it doesn't have much by way of liquid assets. So we think this stock is risky, like walking through a dirty dog park with a mask on. 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 example Skyline Investments has 2 warning signs (and 1 which makes us a bit uncomfortable) we think you should know about.

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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