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. We can see that Elkop SE (WSE:EKP) does use debt in its business. But the more important question is: how much risk is that debt creating?
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. If things get really bad, the lenders can take control of the business. 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. 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.
Check out our latest analysis for Elkop
As you can see below, Elkop had zł30.3m of debt at June 2022, down from zł33.4m a year prior. And it doesn't have much cash, so its net debt is about the same.
According to the last reported balance sheet, Elkop had liabilities of zł3.22m due within 12 months, and liabilities of zł40.6m due beyond 12 months. Offsetting these obligations, it had cash of zł508.0k as well as receivables valued at zł2.75m due within 12 months. So its liabilities total zł40.6m more than the combination of its cash and short-term receivables.
The deficiency here weighs heavily on the zł18.9m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, Elkop would likely require a major re-capitalisation if it had to pay its creditors today.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.
Elkop has a rather high debt to EBITDA ratio of 7.1 which suggests a meaningful debt load. However, its interest coverage of 4.3 is reasonably strong, which is a good sign. Even worse, Elkop saw its EBIT tank 30% over the last 12 months. If earnings continue to follow that trajectory, paying off that debt load will be harder than convincing us to run a marathon in the rain. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Elkop will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, Elkop's free cash flow amounted to 24% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.
On the face of it, Elkop's EBIT growth rate left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. Having said that, its ability to cover its interest expense with its EBIT isn't such a worry. Taking into account all the aforementioned factors, it looks like Elkop has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet – far from it. Be aware that Elkop is showing 3 warning signs in our investment analysis , and 1 of those can't be ignored…
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.
Find out whether Elkop is potentially over or undervalued by checking out our comprehensive analysis, which includes fair value estimates, risks and warnings, dividends, insider transactions and financial health.
Simply Wall St's Editorial Team provides unbiased, factual reporting on global stocks using in-depth fundamental analysis.
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Elkop SE engages in the real estate business in Poland.
The Snowflake is a visual investment summary with the score of each axis being calculated by 6 checks in 5 areas.
Read more about these checks in the individual report sections or in our analysis model.
Proven track record and fair value.
Simply Wall St's Editorial Team provides unbiased, factual reporting on global stocks using in-depth fundamental analysis.
Find out more about our editorial guidelines and team.
Elkop SE engages in the real estate business in Poland.
The Snowflake is a visual investment summary with the score of each axis being calculated by 6 checks in 5 areas.
Read more about these checks in the individual report sections or in our analysis model.
Proven track record and fair value.
Simply Wall Street Pty Ltd (ACN 600 056 611), is a Corporate Authorised Representative (Authorised Representative Number: 467183) of Sanlam Private Wealth Pty Ltd (AFSL No. 337927). Any advice contained in this website is general advice only and has been prepared without considering your objectives, financial situation or needs. You should not rely on any advice and/or information contained in this website and before making any investment decision we recommend that you consider whether it is appropriate for your situation and seek appropriate financial, taxation and legal advice. Please read our Financial Services Guide before deciding whether to obtain financial services from us.
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