Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that DGR Global Limited (ASX:DGR) does use debt in its business. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
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. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does DGR Global Carry?
The image below, which you can click on for greater detail, shows that at December 2018 DGR Global had debt of AU$10.1m, up from AU$8.21m in one year. However, because it has a cash reserve of AU$1.64m, its net debt is less, at about AU$8.45m.
How Strong Is DGR Global's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that DGR Global had liabilities of AU$1.85m due within 12 months and liabilities of AU$48.4m due beyond that. Offsetting this, it had AU$1.64m in cash and AU$1.38m in receivables that were due within 12 months. So its liabilities total AU$47.2m more than the combination of its cash and short-term receivables.
This deficit is considerable relative to its market capitalization of AU$49.1m, so it does suggest shareholders should keep an eye on DGR Global's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since DGR Global 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.
Over 12 months, DGR Global reported revenue of AU$3.3m, which is a gain of 80%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.
Despite the top line growth, DGR Global still had negative earnings before interest and tax (EBIT), over the last year. Indeed, it lost AU$1.9m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled AU$3.8m in negative free cash flow over the last twelve months. So in short it's a really risky stock. When we look at a riskier company, we like to check how their profits (or losses) are trending over time. Today, we're providing readers this interactive graph showing how DGR Global's profit, revenue, and operating cashflow have changed over the last few years.
If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.