UNIOR Kovaska industrija d.d (LJSE:UKIG) Takes On Some Risk With Its Use Of Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We note that UNIOR Kovaska industrija d.d. (LJSE:UKIG) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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 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.

Check out our latest analysis for UNIOR Kovaska industrija d.d

How Much Debt Does UNIOR Kovaska industrija d.d Carry?

The image below, which you can click on for greater detail, shows that UNIOR Kovaska industrija d.d had debt of €108.0m at the end of September 2022, a reduction from €113.8m over a year. However, it does have €16.7m in cash offsetting this, leading to net debt of about €91.3m.

How Strong Is UNIOR Kovaska industrija d.d's Balance Sheet?

According to the last reported balance sheet, UNIOR Kovaska industrija d.d had liabilities of €103.1m due within 12 months, and liabilities of €93.9m due beyond 12 months. Offsetting these obligations, it had cash of €16.7m as well as receivables valued at €58.2m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €122.1m.

This deficit casts a shadow over the €26.8m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, UNIOR Kovaska industrija d.d would likely require a major re-capitalisation if it had to pay its creditors today.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

UNIOR Kovaska industrija d.d has a debt to EBITDA ratio of 3.6 and its EBIT covered its interest expense 4.2 times. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. However, one redeeming factor is that UNIOR Kovaska industrija d.d grew its EBIT at 17% over the last 12 months, boosting its ability to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is UNIOR Kovaska industrija d.d'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the last three years, UNIOR Kovaska industrija d.d actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Neither UNIOR Kovaska industrija d.d's ability to handle its total liabilities nor its net debt to EBITDA gave us confidence in its ability to take on more debt. But its conversion of EBIT to free cash flow tells a very different story, and suggests some resilience. When we consider all the factors discussed, it seems to us that UNIOR Kovaska industrija d.d is taking some risks with its use of debt. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 4 warning signs we've spotted with UNIOR Kovaska industrija d.d (including 1 which is potentially serious) .

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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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.