Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. As with many other companies Christie Group plc (LON:CTG) makes use of debt. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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.
What Is Christie Group's Debt?
You can click the graphic below for the historical numbers, but it shows that Christie Group had UK£3.57m of debt in December 2021, down from UK£6.21m, one year before. But on the other hand it also has UK£8.17m in cash, leading to a UK£4.60m net cash position.
How Healthy Is Christie Group's Balance Sheet?
According to the last reported balance sheet, Christie Group had liabilities of UK£16.0m due within 12 months, and liabilities of UK£19.4m due beyond 12 months. On the other hand, it had cash of UK£8.17m and UK£13.4m worth of receivables due within a year. So it has liabilities totalling UK£13.8m more than its cash and near-term receivables, combined.
While this might seem like a lot, it is not so bad since Christie Group has a market capitalization of UK£30.1m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Christie Group also has more cash than debt, so we're pretty confident it can manage its debt safely.
We also note that Christie Group improved its EBIT from a last year's loss to a positive UK£2.6m. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Christie Group can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.
Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Christie Group 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 year, Christie Group recorded free cash flow worth 69% 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.
Although Christie Group's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of UK£4.60m. And it impressed us with free cash flow of UK£1.8m, being 69% of its EBIT. So we don't have any problem with Christie Group's use of debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Christie Group is showing 3 warning signs in our investment analysis , you should know about...
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.