Here's Why Farmacosmo (BIT:COSMO) Can Afford Some Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Farmacosmo S.p.A. (BIT:COSMO) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.

What Is Farmacosmo's Debt?

The image below, which you can click on for greater detail, shows that at December 2024 Farmacosmo had debt of €7.33m, up from €6.69m in one year. On the flip side, it has €3.12m in cash leading to net debt of about €4.21m.

How Healthy Is Farmacosmo's Balance Sheet?

We can see from the most recent balance sheet that Farmacosmo had liabilities of €18.3m falling due within a year, and liabilities of €1.69m due beyond that. Offsetting this, it had €3.12m in cash and €4.77m in receivables that were due within 12 months. So its liabilities total €12.1m more than the combination of its cash and short-term receivables.

This is a mountain of leverage relative to its market capitalization of €19.4m. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Farmacosmo'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.

Check out our latest analysis for Farmacosmo

In the last year Farmacosmo had a loss before interest and tax, and actually shrunk its revenue by 12%, to €64m. We would much prefer see growth.

Caveat Emptor

While Farmacosmo's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable €2.3m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. However, it doesn't help that it burned through €3.1m of cash over the last year. So suffice it to say we consider the stock very risky. 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. Be aware that Farmacosmo is showing 3 warning signs in our investment analysis , you should know about...

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.