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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 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. We can see that Precomp Solutions AB (publ) (STO:PCOM B) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
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. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.
View our latest analysis for Precomp Solutions
How Much Debt Does Precomp Solutions Carry?
You can click the graphic below for the historical numbers, but it shows that Precomp Solutions had kr38.4m of debt in September 2020, down from kr46.1m, one year before. However, because it has a cash reserve of kr6.90m, its net debt is less, at about kr31.5m.
A Look At Precomp Solutions' Liabilities
The latest balance sheet data shows that Precomp Solutions had liabilities of kr65.0m due within a year, and liabilities of kr17.4m falling due after that. On the other hand, it had cash of kr6.90m and kr33.7m worth of receivables due within a year. So it has liabilities totalling kr41.8m more than its cash and near-term receivables, combined.
This deficit casts a shadow over the kr20.9m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Precomp Solutions would likely require a major re-capitalisation if it had to pay its creditors today. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Precomp Solutions'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 Precomp Solutions had a loss before interest and tax, and actually shrunk its revenue by 25%, to kr139m. That makes us nervous, to say the least.
Caveat Emptor
Not only did Precomp Solutions's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping kr2.6m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. It's fair to say the loss of kr4.8m didn't encourage us either; we'd like to see a profit. In the meantime, we consider the stock to be 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 3 warning signs for Precomp Solutions (of which 2 are a bit concerning!) you should know about.
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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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.
*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
About OM:PCOM B
Precomp Solutions
Manufactures precision components for the automotive and engineering industries in Europe.
Slight risk and slightly overvalued.
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