Is S&W Seed (NASDAQ:SANW) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, S&W Seed Company (NASDAQ:SANW) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for S&W Seed

What Is S&W Seed's Net Debt?

The image below, which you can click on for greater detail, shows that at December 2022 S&W Seed had debt of US$52.1m, up from US$49.2m in one year. However, it does have US$1.33m in cash offsetting this, leading to net debt of about US$50.7m.

How Strong Is S&W Seed's Balance Sheet?

According to the last reported balance sheet, S&W Seed had liabilities of US$80.1m due within 12 months, and liabilities of US$7.07m due beyond 12 months. Offsetting these obligations, it had cash of US$1.33m as well as receivables valued at US$24.1m due within 12 months. So its liabilities total US$61.7m more than the combination of its cash and short-term receivables.

Given this deficit is actually higher than the company's market capitalization of US$53.1m, we think shareholders really should watch S&W Seed's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine S&W Seed's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Over 12 months, S&W Seed made a loss at the EBIT level, and saw its revenue drop to US$76m, which is a fall of 8.8%. We would much prefer see growth.

Caveat Emptor

Importantly, S&W Seed had an earnings before interest and tax (EBIT) loss over the last year. Indeed, it lost a very considerable US$26m at the EBIT level. 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. Not least because it burned through US$20m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. 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 5 warning signs we've spotted with S&W Seed (including 1 which doesn't sit too well with us) .

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.