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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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that BluMetric Environmental Inc. (CVE:BLM) does have debt on its balance sheet. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does BluMetric Environmental Carry?
The image below, which you can click on for greater detail, shows that BluMetric Environmental had debt of CA$2.15m at the end of June 2021, a reduction from CA$2.73m over a year. But it also has CA$3.79m in cash to offset that, meaning it has CA$1.63m net cash.
How Strong Is BluMetric Environmental's Balance Sheet?
The latest balance sheet data shows that BluMetric Environmental had liabilities of CA$5.72m due within a year, and liabilities of CA$2.04m falling due after that. On the other hand, it had cash of CA$3.79m and CA$10.5m worth of receivables due within a year. So it can boast CA$6.48m more liquid assets than total liabilities.
This surplus suggests that BluMetric Environmental is using debt in a way that is appears to be both safe and conservative. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, BluMetric Environmental boasts net cash, so it's fair to say it does not have a heavy debt load!
Better yet, BluMetric Environmental grew its EBIT by 717% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is BluMetric Environmental'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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. BluMetric Environmental 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 most recent three years, BluMetric Environmental recorded free cash flow worth 68% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.
While it is always sensible to investigate a company's debt, in this case BluMetric Environmental has CA$1.63m in net cash and a decent-looking balance sheet. And we liked the look of last year's 717% year-on-year EBIT growth. So is BluMetric Environmental's debt a risk? It doesn't seem so to us. 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. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for BluMetric Environmental you should know about.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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.
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