Is Dom Development (WSE:DOM) 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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Dom Development S.A. (WSE:DOM) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Dom Development

How Much Debt Does Dom Development Carry?

As you can see below, at the end of December 2021, Dom Development had zł393.1m of debt, up from zł370.0m a year ago. Click the image for more detail. However, it does have zł607.0m in cash offsetting this, leading to net cash of zł213.9m.

How Strong Is Dom Development's Balance Sheet?

According to the last reported balance sheet, Dom Development had liabilities of zł2.11b due within 12 months, and liabilities of zł522.7m due beyond 12 months. Offsetting these obligations, it had cash of zł607.0m as well as receivables valued at zł67.5m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by zł1.95b.

This is a mountain of leverage relative to its market capitalization of zł2.17b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. Despite its noteworthy liabilities, Dom Development boasts net cash, so it's fair to say it does not have a heavy debt load!

Fortunately, Dom Development grew its EBIT by 6.4% in the last year, making that debt load look even more manageable. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Dom Development can strengthen its balance sheet over time. 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. While Dom Development has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, Dom Development actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While Dom Development does have more liabilities than liquid assets, it also has net cash of zł213.9m. The cherry on top was that in converted 106% of that EBIT to free cash flow, bringing in zł380m. So we don't have any problem with Dom Development's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example Dom Development has 3 warning signs (and 1 which is concerning) we think you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.