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'. So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Venture Life Group plc (LON:VLG) makes use of debt. But is this debt a concern to shareholders?
When Is Debt A Problem?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 Venture Life Group's Net Debt?
As you can see below, at the end of December 2019, Venture Life Group had UK£4.37m of debt, up from UK£3.84m a year ago. Click the image for more detail. But it also has UK£10.7m in cash to offset that, meaning it has UK£6.34m net cash.
How Strong Is Venture Life Group's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Venture Life Group had liabilities of UK£8.14m due within 12 months and liabilities of UK£6.07m due beyond that. On the other hand, it had cash of UK£10.7m and UK£6.26m worth of receivables due within a year. So it actually has UK£2.76m more liquid assets than total liabilities.
This short term liquidity is a sign that Venture Life Group could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Venture Life Group has more cash than debt is arguably a good indication that it can manage its debt safely.
Also positive, Venture Life Group grew its EBIT by 22% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Venture Life Group can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Venture Life 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 last three years, Venture Life Group reported free cash flow worth 2.1% of its EBIT, which is really quite low. That limp level of cash conversion undermines its ability to manage and pay down debt.
While it is always sensible to investigate a company's debt, in this case Venture Life Group has UK£6.34m in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 22% over the last year. So we don't have any problem with Venture Life Group's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 3 warning signs for Venture Life Group you should be aware of, and 1 of them can't be ignored.
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.
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