Is Synektik Spólka Akcyjna (WSE:SNT) 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.' 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. We note that Synektik Spólka Akcyjna (WSE:SNT) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Synektik Spólka Akcyjna

What Is Synektik Spólka Akcyjna's Debt?

As you can see below, at the end of June 2022, Synektik Spólka Akcyjna had zł17.0m of debt, up from zł8.22m a year ago. Click the image for more detail. However, it also had zł11.2m in cash, and so its net debt is zł5.85m.

How Healthy Is Synektik Spólka Akcyjna's Balance Sheet?

We can see from the most recent balance sheet that Synektik Spólka Akcyjna had liabilities of zł71.4m falling due within a year, and liabilities of zł46.1m due beyond that. On the other hand, it had cash of zł11.2m and zł35.5m worth of receivables due within a year. So its liabilities total zł70.9m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Synektik Spólka Akcyjna has a market capitalization of zł249.1m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without 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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While Synektik Spólka Akcyjna's low debt to EBITDA ratio of 0.30 suggests only modest use of debt, the fact that EBIT only covered the interest expense by 5.0 times last year does give us pause. But the interest payments are certainly sufficient to have us thinking about how affordable its debt is. Unfortunately, Synektik Spólka Akcyjna saw its EBIT slide 5.0% in the last twelve months. If that earnings trend continues then its debt load will grow heavy like the heart of a polar bear watching its sole cub. There's no doubt that we learn most about debt from the balance sheet. But it is Synektik Spólka Akcyjna's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. Over the most recent three years, Synektik Spólka Akcyjna recorded free cash flow worth 54% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Our View

When it comes to the balance sheet, the standout positive for Synektik Spólka Akcyjna was the fact that it seems able handle its debt, based on its EBITDA, confidently. However, our other observations weren't so heartening. For example, its EBIT growth rate makes us a little nervous about its debt. It's also worth noting that Synektik Spólka Akcyjna is in the Healthcare Services industry, which is often considered to be quite defensive. When we consider all the elements mentioned above, it seems to us that Synektik Spólka Akcyjna is managing its debt quite well. 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. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 2 warning signs we've spotted with Synektik Spólka Akcyjna (including 1 which can't be ignored) .

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.