Howard Marks said it well when he said that, rather than worrying about stock price volatility, “the possibility of permanent loss is the risk I worry about…and that every practical investor that I know is worried”. When we think of a company’s risk, we always like to look at its use of debt, because over-indebtedness can lead to ruin. Above all, adveritas limited (ASX:AV1) is in debt. But the more important question is: what risk does this debt create?
What risk does debt carry?
Debt and other liabilities become risky for a business when it cannot easily meet those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case, 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 at a low price, thereby permanently diluting shareholders. By replacing dilution, however, debt can be a great tool for companies that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business has is to look at its cash and debt together.
See our latest analysis for Adveritas
What is Adveritas’ net debt?
The image below, which you can click on for more details, shows that in June 2022, Adveritas had A$2.96 million in debt, up from none in a year. However, he has A$5.05 million in cash to offset this, which translates to a net cash of A$2.09 million.
A look at Adveritas’ responsibilities
The latest balance sheet data shows that Adveritas had liabilities of A$2.07 million due within one year, and liabilities of A$3.39 million falling due thereafter. On the other hand, it had cash of A$5.05 million and A$512.0k of receivables due within one year. These liquid assets therefore roughly correspond to the total liabilities.
Given the size of Adveritas, it appears its cash is well balanced with its total liabilities. So while it’s hard to imagine the A$35.6m company fighting for money, we still think it’s worth keeping an eye on its balance sheet. Simply put, the fact that Adveritas has more cash than debt is arguably a good indication that it can safely manage its debt. The balance sheet is clearly the area to focus on when analyzing debt. But you can’t look at debt in total isolation; as Adveritas will need income to repay this debt. So, if you want to know more about its earnings, it may be worth checking out this graph of its long-term trend.
Last year, Adveritas was not profitable in terms of EBIT, but managed to increase its turnover by 300%, to 3.9 million Australian dollars. When it comes to revenue growth, it’s like winning the 3-point game!
So how risky is Adveritas?
By their very nature, companies that lose money are riskier than those with a long history of profitability. And the fact is that over the past twelve months, Adveritas has been losing money in earnings before interest and taxes (EBIT). And over the same period, it recorded a negative free cash outflow of A$9.5 million and recorded a book loss of A$9.1 million. Given that it only has net cash of A$2.09 million, the company may need to raise more capital if it does not break even soon. Importantly, Adveritas revenue growth is imminent. While unprofitable businesses can be risky, they can also grow strongly and quickly in those pre-profit years. When analyzing debt levels, the balance sheet is the obvious starting point. However, not all investment risks reside on the balance sheet, far from it. For example, we found 5 warning signs for Adveritas (2 are concerning!) that you should be aware of before investing here.
Of course, if you’re the type of investor who prefers to buy stocks without the burden of debt, then feel free to check out our exclusive list of cash-efficient growth stocks today.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.
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