Is Czerwona Torebka Spólka Akcyjna (WSE:CZT) Using Debt In A Risky Way?

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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Czerwona Torebka Spólka Akcyjna (WSE:CZT) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Czerwona Torebka Spólka Akcyjna

How Much Debt Does Czerwona Torebka Spólka Akcyjna Carry?

As you can see below, Czerwona Torebka Spólka Akcyjna had zł87.4m of debt, at December 2020, which is about the same as the year before. You can click the chart for greater detail. However, it does have zł15.2m in cash offsetting this, leading to net debt of about zł72.2m.

How Strong Is Czerwona Torebka Spólka Akcyjna's Balance Sheet?

We can see from the most recent balance sheet that Czerwona Torebka Spólka Akcyjna had liabilities of zł26.4m falling due within a year, and liabilities of zł130.1m due beyond that. On the other hand, it had cash of zł15.2m and zł17.3m worth of receivables due within a year. So its liabilities total zł124.0m more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the zł47.3m company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Czerwona Torebka Spólka Akcyjna would likely require a major re-capitalisation if it had to pay its creditors today. There's no doubt that we learn most about debt from the balance sheet. But it is Czerwona Torebka Spólka Akcyjna's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Czerwona Torebka Spólka Akcyjna reported revenue of zł6.1m, which is a gain of 26%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.

Caveat Emptor

Despite the top line growth, Czerwona Torebka Spólka Akcyjna still had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost a very considerable zł18m at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. But we think that is unlikely, given it is low on liquid assets, and burned through zł2.8m in the last year. So we consider this a high risk stock and we wouldn't be at all surprised if the company asks shareholders for money before long. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that Czerwona Torebka Spólka Akcyjna is showing 2 warning signs in our investment analysis , you should know about...

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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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. 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.
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