Is Krynica Vitamin (WSE:KVT) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Krynica Vitamin S.A. (WSE:KVT) does use debt in its business. But the more important question is: how much risk is that debt creating?

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. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Krynica Vitamin

What Is Krynica Vitamin's Net Debt?

As you can see below, Krynica Vitamin had zł22.3m of debt at December 2020, down from zł41.9m a year prior. However, it does have zł6.32m in cash offsetting this, leading to net debt of about zł16.0m.

A Look At Krynica Vitamin's Liabilities

The latest balance sheet data shows that Krynica Vitamin had liabilities of zł91.3m due within a year, and liabilities of zł34.6m falling due after that. On the other hand, it had cash of zł6.32m and zł47.4m worth of receivables due within a year. So its liabilities total zł72.1m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Krynica Vitamin has a market capitalization of zł230.3m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Krynica Vitamin's net debt is only 0.18 times its EBITDA. And its EBIT easily covers its interest expense, being 78.7 times the size. So we're pretty relaxed about its super-conservative use of debt. Even more impressive was the fact that Krynica Vitamin grew its EBIT by 616% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Krynica Vitamin 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Krynica Vitamin produced sturdy free cash flow equating to 56% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

Happily, Krynica Vitamin's impressive interest cover implies it has the upper hand on its debt. And the good news does not stop there, as its EBIT growth rate also supports that impression! Looking at the bigger picture, we think Krynica Vitamin's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. 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. For example, we've discovered 3 warning signs for Krynica Vitamin that you should be aware of before investing here.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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