Is S.C. Prodplast (BVB:PPL) Using Too Much Debt?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies S.C. Prodplast S.A. (BVB:PPL) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for S.C. Prodplast

How Much Debt Does S.C. Prodplast Carry?

As you can see below, at the end of June 2020, S.C. Prodplast had RON17.4m of debt, up from RON10.7m a year ago. Click the image for more detail. But it also has RON33.3m in cash to offset that, meaning it has RON16.0m net cash.

A Look At S.C. Prodplast's Liabilities

According to the last reported balance sheet, S.C. Prodplast had liabilities of RON48.5m due within 12 months, and liabilities of RON3.92m due beyond 12 months. On the other hand, it had cash of RON33.3m and RON3.80m worth of receivables due within a year. So its liabilities total RON15.3m more than the combination of its cash and short-term receivables.

S.C. Prodplast has a market capitalization of RON64.2m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, S.C. Prodplast boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, S.C. Prodplast grew its EBIT by 85% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is S.C. Prodplast'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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. S.C. Prodplast may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, S.C. Prodplast saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing up

Although S.C. Prodplast's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of RON16.0m. And it impressed us with its EBIT growth of 85% over the last year. So we don't have any problem with S.C. Prodplast's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that S.C. Prodplast is showing 3 warning signs in our investment analysis , and 1 of those makes us a bit uncomfortable...

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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