Berkshire Hathaway’s Charlie Munger-backed external fund manager Li Lu is quick to say this when he says “The biggest risk in investing is not price volatility, but if you will suffer a loss. permanent capital “. It’s only natural to consider a company’s balance sheet when looking at its level of risk, as debt is often involved when a business collapses. Like many other companies Bittnet Systems SA (BVB: BNET) uses debt. But should shareholders be concerned about its use of debt?
When is debt dangerous?
Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, debt can be an important tool in businesses, especially capital intensive businesses. When we think of a business’s use of debt, we first look at cash flow and debt together.
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What is the net debt of Bittnet Systems?
The graph below, which you can click for more details, shows that Bittnet Systems had a debt of RON 35.2 million in September 2021; about the same as the year before. However, it has RON 30.6 million in cash offsetting this, which leads to a net debt of around RON 4.67 million.
A look at the responsibilities of Bittnet Systems
We can see from the most recent balance sheet that Bittnet Systems had a liability of RON 31.6 million maturing within one year and a liability of RON 32.6 million beyond. On the other hand, he had cash of RON 30.6 million and RON 34.6 million in receivables due within one year. Thus, its total liabilities correspond more or less perfectly to its short-term liquid assets.
This fact indicates that Bittnet Systems’ balance sheet looks quite strong, as its total liabilities roughly equal its liquid assets. So the RON 172.0million company is highly unlikely to run out of cash, but it’s still worth keeping an eye on the balance sheet.
In order to measure a company’s debt relative to its profits, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its profit before interest and taxes (EBIT) divided by its interest. debtors (its interest coverage). Thus, we look at debt versus earnings with and without amortization expenses.
Bittnet Systems has a low debt to EBITDA ratio of just 0.89. But what’s really cool is that he actually managed to earn more interest than he paid, in the last year or so. So there is no doubt that this company can go into debt and still be cool as a cucumber. It’s also good that the load on Bittnet Systems is not too heavy, as its EBIT is down 36% compared to last year. Falling profits (if the trend continues) could potentially make even small debt risky enough. When analyzing debt levels, the balance sheet is the obvious place to start. But ultimately, the company’s future profitability will decide whether Bittnet Systems can strengthen its balance sheet over time. So if you are focused on the future you can check this out free report showing analysts’ earnings forecasts.
But our last consideration is also important, because a business cannot pay its debts with paper profits; he needs hard cash. It is therefore worth checking to what extent this EBIT is supported by free cash flow. Fortunately for all shareholders, Bittnet Systems has actually generated more free cash flow than EBIT over the past two years. This kind of solid silver generation warms our hearts like a puppy in a bumblebee costume.
Our point of view
The good news is that Bittnet Systems’ demonstrated ability to cover interest costs with EBIT delights us like a fluffy puppy does a toddler. But the hard truth is that we are concerned about its growth rate of EBIT. Looking at all of the above factors together, it seems to us that Bittnet Systems can manage its debt quite comfortably. On the plus side, this leverage can increase returns to shareholders, but the potential downside is more risk of loss, so it’s worth watching the balance sheet. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks lie on the balance sheet – far from it. Concrete example: we have spotted 3 warning signs for Bittnet systems you need to be aware of it, and one of them is important.
At the end of the day, sometimes it’s easier to focus on businesses that don’t even need to go into debt. Readers can access a list of growth stocks with zero net debt 100% free, at present.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only 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 into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in any of the stocks mentioned.