Is Bumech (WSE:BMC) A Risky Investment?

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.' 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. As with many other companies Bumech S.A. (WSE:BMC) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.

Our analysis indicates that BMC is potentially undervalued!

What Is Bumech's Debt?

The image below, which you can click on for greater detail, shows that Bumech had debt of zł102.4m at the end of June 2022, a reduction from zł109.6m over a year. But it also has zł173.9m in cash to offset that, meaning it has zł71.5m net cash.

A Look At Bumech's Liabilities

The latest balance sheet data shows that Bumech had liabilities of zł343.5m due within a year, and liabilities of zł212.3m falling due after that. Offsetting these obligations, it had cash of zł173.9m as well as receivables valued at zł85.5m due within 12 months. So its liabilities total zł296.5m more than the combination of its cash and short-term receivables.

Bumech has a market capitalization of zł912.3m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Bumech also has more cash than debt, so we're pretty confident it can manage its debt safely.

Better yet, Bumech grew its EBIT by 192% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Bumech's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Bumech may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last two years, Bumech recorded free cash flow worth a fulsome 97% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Summing Up

Although Bumech's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of zł71.5m. The cherry on top was that in converted 97% of that EBIT to free cash flow, bringing in zł114m. So is Bumech's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 3 warning signs for Bumech you should be aware of.

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.