Does Grodno Spólka Akcyjna (WSE:GRN) Have A Healthy Balance Sheet?

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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Grodno Spólka Akcyjna (WSE:GRN) does use debt in its business. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. 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 Grodno Spólka Akcyjna

What Is Grodno Spólka Akcyjna's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2021 Grodno Spólka Akcyjna had zł82.3m of debt, an increase on zł70.3m, over one year. On the flip side, it has zł3.42m in cash leading to net debt of about zł78.9m.

How Healthy Is Grodno Spólka Akcyjna's Balance Sheet?

The latest balance sheet data shows that Grodno Spólka Akcyjna had liabilities of zł262.8m due within a year, and liabilities of zł43.3m falling due after that. Offsetting this, it had zł3.42m in cash and zł146.2m in receivables that were due within 12 months. So it has liabilities totalling zł156.5m more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of zł243.0m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Grodno Spólka Akcyjna's net debt to EBITDA ratio of about 1.5 suggests only moderate use of debt. And its commanding EBIT of 75.4 times its interest expense, implies the debt load is as light as a peacock feather. Even more impressive was the fact that Grodno Spólka Akcyjna grew its EBIT by 124% over twelve months. That boost will make it even easier to pay down debt going forward. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Grodno Spólka Akcyjna will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Looking at the most recent three years, Grodno Spólka Akcyjna recorded free cash flow of 27% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

Both Grodno Spólka Akcyjna's ability to to cover its interest expense with its EBIT and its EBIT growth rate gave us comfort that it can handle its debt. Having said that, its conversion of EBIT to free cash flow somewhat sensitizes us to potential future risks to the balance sheet. Considering this range of data points, we think Grodno Spólka Akcyjna is in a good position to manage its debt levels. But a word of caution: we think debt levels are high enough to justify ongoing monitoring. 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. To that end, you should be aware of the 2 warning signs we've spotted with Grodno Spólka Akcyjna .

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.