Yahoo Finance Gamma Communications (LON:GAMA) Has A Pretty Healthy Balance Sheet
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. We note that Gamma Communications plc (LON:GAMA) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.
Check out our latest analysis for Gamma Communications
How Much Debt Does Gamma Communications Carry?
As you can see below, Gamma Communications had UK£3.30m of debt at December 2021, down from UK£5.90m a year prior. However, its balance sheet shows it holds UK£52.8m in cash, so it actually has UK£49.5m net cash.
A Look At Gamma Communications' Liabilities
According to the last reported balance sheet, Gamma Communications had liabilities of UK£66.2m due within 12 months, and liabilities of UK£41.4m due beyond 12 months. On the other hand, it had cash of UK£52.8m and UK£103.5m worth of receivables due within a year. So it actually has UK£48.7m more liquid assets than total liabilities.
This short term liquidity is a sign that Gamma Communications could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Gamma Communications boasts net cash, so it's fair to say it does not have a heavy debt load!
But the other side of the story is that Gamma Communications saw its EBIT decline by 9.7% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Gamma Communications's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Gamma Communications has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the most recent three years, Gamma Communications recorded free cash flow worth 71% 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.
Summing up
While we empathize with investors who find debt concerning, you should keep in mind that Gamma Communications has net cash of UK£49.5m, as well as more liquid assets than liabilities. The cherry on top was that in converted 71% of that EBIT to free cash flow, bringing in UK£60m. So is Gamma Communications's debt a risk? It doesn't seem so to us. 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. For example - Gamma Communications has 1 warning sign we think you should be aware of.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
