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 note that Svenska Aerogel Holding AB (publ) (STO:AERO) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
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. 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. 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 examine debt levels, we first consider both cash and debt levels, together.
What Is Svenska Aerogel Holding's Debt?
The image below, which you can click on for greater detail, shows that at December 2020 Svenska Aerogel Holding had debt of kr22.6m, up from kr13.0m in one year. However, it does have kr26.9m in cash offsetting this, leading to net cash of kr4.23m.
How Healthy Is Svenska Aerogel Holding's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Svenska Aerogel Holding had liabilities of kr15.3m due within 12 months and liabilities of kr24.4m due beyond that. On the other hand, it had cash of kr26.9m and kr1.67m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by kr11.2m.
Given Svenska Aerogel Holding has a market capitalization of kr96.5m, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Svenska Aerogel Holding also has more cash than debt, so we're pretty confident it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But it is Svenska Aerogel Holding'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 Svenska Aerogel Holding wasn't profitable at an EBIT level, but managed to grow its revenue by 8.4%, to kr741k. That rate of growth is a bit slow for our taste, but it takes all types to make a world.
So How Risky Is Svenska Aerogel Holding?
We have no doubt that loss making companies are, in general, riskier than profitable ones. And in the last year Svenska Aerogel Holding had an earnings before interest and tax (EBIT) loss, truth be told. And over the same period it saw negative free cash outflow of kr43m and booked a kr37m accounting loss. With only kr4.23m on the balance sheet, it would appear that its going to need to raise capital again soon. Overall, we'd say the stock is a bit risky, and we're usually very cautious until we see positive free cash flow. 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. We've identified 6 warning signs with Svenska Aerogel Holding (at least 4 which shouldn't be ignored) , and understanding them should be part of your investment process.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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