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.' 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. Importantly, The Stanley Gibbons Group plc (LON:SGI) does carry debt. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does Stanley Gibbons Group Carry?
As you can see below, Stanley Gibbons Group had UK£10.3m of debt at September 2018, down from UK£17.4m a year prior. However, because it has a cash reserve of UK£1.79m, its net debt is less, at about UK£8.46m.
A Look At Stanley Gibbons Group's Liabilities
According to the last reported balance sheet, Stanley Gibbons Group had liabilities of UK£16.6m due within 12 months, and liabilities of UK£5.64m due beyond 12 months. On the other hand, it had cash of UK£1.79m and UK£2.86m worth of receivables due within a year. So it has liabilities totalling UK£17.6m more than its cash and near-term receivables, combined.
The deficiency here weighs heavily on the UK£9.56m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, Stanley Gibbons Group would probably need a major re-capitalization if its creditors were to demand repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Stanley Gibbons Group will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
In the last year Stanley Gibbons Group managed to grow its revenue by 119%, to UK£11m. So there's no doubt that shareholders are cheering for growth
Despite the top line growth, Stanley Gibbons Group still had negative earnings before interest and tax (EBIT), over the last year. Its EBIT loss was a whopping UK£5.6m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it had negative free cash flow of UK£2.1m over the last twelve months. So suffice it to say we consider the stock to be risky. When we look at a riskier company, we like to check how their profits (or losses) are trending over time. Today, we're providing readers this interactive graph showing how Stanley Gibbons Group's profit, revenue, and operating cashflow have changed over the last few years.
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.
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