Yahoo Finance Smart Metering Systems (LON:SMS) Has A Somewhat Strained Balance Sheet
Warren Buffett famously said, 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Smart Metering Systems plc (LON:SMS) makes use of debt. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
View our latest analysis for Smart Metering Systems
How Much Debt Does Smart Metering Systems Carry?
The image below, which you can click on for greater detail, shows that at June 2021 Smart Metering Systems had debt of UK£31.8m, up from UK£12.8m in one year. But it also has UK£37.3m in cash to offset that, meaning it has UK£5.55m net cash.
A Look At Smart Metering Systems' Liabilities
According to the last reported balance sheet, Smart Metering Systems had liabilities of UK£59.8m due within 12 months, and liabilities of UK£47.3m due beyond 12 months. Offsetting this, it had UK£37.3m in cash and UK£43.7m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by UK£26.0m.
Of course, Smart Metering Systems has a market capitalization of UK£1.18b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, Smart Metering Systems boasts net cash, so it's fair to say it does not have a heavy debt load!
The modesty of its debt load may become crucial for Smart Metering Systems if management cannot prevent a repeat of the 25% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Smart Metering Systems 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 company can only pay off debt with cold hard cash, not accounting profits. Smart Metering Systems 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 last three years, Smart Metering Systems saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.
Summing up
While it is always sensible to look at a company's total liabilities, it is very reassuring that Smart Metering Systems has UK£5.55m in net cash. So although we see some areas for improvement, we're not too worried about Smart Metering Systems's balance sheet. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 4 warning signs we've spotted with Smart Metering Systems (including 1 which is significant) .
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
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.
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