Is ML System (WSE:MLS) Using Too Much Debt?

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. Importantly, ML System S.A. (WSE:MLS) does carry debt. But the real question is whether this debt is making the company risky.

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

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What Is ML System's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2022 ML System had zł84.5m of debt, an increase on zł74.8m, over one year. However, it also had zł3.04m in cash, and so its net debt is zł81.5m.

How Strong Is ML System's Balance Sheet?

The latest balance sheet data shows that ML System had liabilities of zł118.4m due within a year, and liabilities of zł121.7m falling due after that. On the other hand, it had cash of zł3.04m and zł64.9m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by zł172.2m.

While this might seem like a lot, it is not so bad since ML System has a market capitalization of zł303.5m, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. There's no doubt that we learn most about debt from the balance sheet. But it is ML System'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.

In the last year ML System wasn't profitable at an EBIT level, but managed to grow its revenue by 56%, to zł222m. With any luck the company will be able to grow its way to profitability.

Caveat Emptor

While we can certainly appreciate ML System's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. To be specific the EBIT loss came in at zł1.1m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled zł71m in negative free cash flow over the last twelve months. 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. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 3 warning signs for ML System (2 are a bit unpleasant) you should be aware of.

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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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.