Aeffe (BIT:AEF) Is Making Moderate Use Of Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 Aeffe S.p.A. (BIT:AEF) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Aeffe

What Is Aeffe's Debt?

The chart below, which you can click on for greater detail, shows that Aeffe had €90.5m in debt in June 2021; about the same as the year before. On the flip side, it has €42.6m in cash leading to net debt of about €48.0m.

How Healthy Is Aeffe's Balance Sheet?

The latest balance sheet data shows that Aeffe had liabilities of €143.7m due within a year, and liabilities of €141.6m falling due after that. On the other hand, it had cash of €42.6m and €88.4m worth of receivables due within a year. So its liabilities total €154.3m more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of €244.5m. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. 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 Aeffe'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 Aeffe wasn't profitable at an EBIT level, but managed to grow its revenue by 2.3%, to €315m. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

Caveat Emptor

Importantly, Aeffe had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at €1.5m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. On the bright side, we note that trailing twelve month EBIT is worse than the free cash flow of €34m and the profit of €2.8m. So if we focus on those metrics there seems to be a chance the company will manage its debt without much trouble. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example - Aeffe has 3 warning signs we think you should be aware of.

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.

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.

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