Siav (BIT:SIAV) Use Of Debt Could Be Considered Risky

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that '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. Importantly, Siav S.p.A. (BIT:SIAV) does carry debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.

See our latest analysis for Siav

What Is Siav's Net Debt?

The chart below, which you can click on for greater detail, shows that Siav had €13.3m in debt in June 2024; about the same as the year before. However, because it has a cash reserve of €1.84m, its net debt is less, at about €11.5m.

A Look At Siav's Liabilities

The latest balance sheet data shows that Siav had liabilities of €30.3m due within a year, and liabilities of €14.1m falling due after that. Offsetting these obligations, it had cash of €1.84m as well as receivables valued at €15.7m due within 12 months. So its liabilities total €26.8m more than the combination of its cash and short-term receivables.

Given this deficit is actually higher than the company's market capitalization of €20.6m, we think shareholders really should watch Siav's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While Siav's debt to EBITDA ratio (3.2) suggests that it uses some debt, its interest cover is very weak, at 0.74, suggesting high leverage. It seems that the business incurs large depreciation and amortisation charges, so maybe its debt load is heavier than it would first appear, since EBITDA is arguably a generous measure of earnings. So shareholders should probably be aware that interest expenses appear to have really impacted the business lately. Worse, Siav's EBIT was down 52% over the last year. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Siav can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

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. During the last three years, Siav burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

To be frank both Siav's conversion of EBIT to free cash flow and its track record of (not) growing its EBIT make us rather uncomfortable with its debt levels. And furthermore, its level of total liabilities also fails to instill confidence. We think the chances that Siav 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. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Siav has 4 warning signs (and 3 which are a bit concerning) we think you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.