Would Larq (WSE:LRQ) Be Better Off With Less Debt?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Larq S.A. (WSE:LRQ) makes use of debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 Larq

What Is Larq's Debt?

As you can see below, Larq had zł6.23m of debt at December 2020, down from zł8.30m a year prior. On the flip side, it has zł998.8k in cash leading to net debt of about zł5.23m.

How Healthy Is Larq's Balance Sheet?

The latest balance sheet data shows that Larq had liabilities of zł7.56m due within a year, and liabilities of zł345.8k falling due after that. Offsetting this, it had zł998.8k in cash and zł947.7k in receivables that were due within 12 months. So its liabilities total zł5.96m more than the combination of its cash and short-term receivables.

Larq has a market capitalization of zł19.6m, 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. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Larq will need earnings to service that debt. 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.

Given it has no significant operating revenue at the moment, shareholders will be hoping Larq can make progress and gain better traction for the business, before it runs low on cash.

Caveat Emptor

Over the last twelve months Larq produced an earnings before interest and tax (EBIT) loss. Indeed, it lost zł1.7m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through zł2.2m of cash over the last year. So suffice it to say we consider the stock very risky. 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. These risks can be hard to spot. Every company has them, and we've spotted 5 warning signs for Larq (of which 4 are a bit concerning!) you should know about.

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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