Want to participate in a short research study? Help shape the future of investing tools and you could win a $250 gift card!
Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that ‘Volatility is far from synonymous with risk.’ 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 11 bit studios S.A. (WSE:11B) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company’s debt levels is to consider its cash and debt together.
What Is 11 bit studios’s Net Debt?
The image below, which you can click on for greater detail, shows that at March 2019 11 bit studios had debt of zł12.7m, up from none in one year. However, its balance sheet shows it holds zł64.0m in cash, so it actually has zł51.3m net cash.
How Strong Is 11 bit studios’s Balance Sheet?
Zooming in on the latest balance sheet data, we can see that 11 bit studios had liabilities of zł6.97m due within 12 months and liabilities of zł12.1m due beyond that. Offsetting this, it had zł64.0m in cash and zł7.91m in receivables that were due within 12 months. So it actually has zł52.8m more liquid assets than total liabilities.
This short term liquidity is a sign that 11 bit studios could probably pay off its debt with ease, as its balance sheet is far from stretched. 11 bit studios boasts net cash, so it’s fair to say it does not have a heavy debt load!
Even more impressive was the fact that 11 bit studios grew its EBIT by 698% over twelve months. 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 ultimately the future profitability of the business will decide if 11 bit studios can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. While 11 bit studios 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. Looking at the most recent three years, 11 bit studios recorded free cash flow of 44% of its EBIT, which is weaker than we’d expect. That weak cash conversion makes it more difficult to handle indebtedness.
While it is always sensible to investigate a company’s debt, in this case 11 bit studios has zł51m in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 698% over the last year. So we don’t think 11 bit studios’s use of debt is risky. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you’ve also come to that realization, you’re in luck, because today you can view this interactive graph of 11 bit studios’s earnings per share history for free.
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.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.