Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 note that Damstra Holdings Limited (ASX:DTC) does have debt on its balance sheet. But is this debt a concern to shareholders?
What Risk Does Debt Bring?
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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Damstra Holdings's Net Debt?
The image below, which you can click on for greater detail, shows that at December 2021 Damstra Holdings had debt of AU$10.8m, up from none in one year. But it also has AU$18.7m in cash to offset that, meaning it has AU$7.97m net cash.
How Strong Is Damstra Holdings' Balance Sheet?
According to the last reported balance sheet, Damstra Holdings had liabilities of AU$26.7m due within 12 months, and liabilities of AU$13.6m due beyond 12 months. Offsetting this, it had AU$18.7m in cash and AU$4.87m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$16.8m.
This deficit isn't so bad because Damstra Holdings is worth AU$46.2m, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, Damstra Holdings boasts net cash, so it's fair to say it does not have a heavy debt load! There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Damstra Holdings 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.
In the last year Damstra Holdings wasn't profitable at an EBIT level, but managed to grow its revenue by 31%, to AU$28m. With any luck the company will be able to grow its way to profitability.
So How Risky Is Damstra Holdings?
We have no doubt that loss making companies are, in general, riskier than profitable ones. And the fact is that over the last twelve months Damstra Holdings lost money at the earnings before interest and tax (EBIT) line. And over the same period it saw negative free cash outflow of AU$9.7m and booked a AU$59m accounting loss. However, it has net cash of AU$7.97m, so it has a bit of time before it will need more capital. With very solid revenue growth in the last year, Damstra Holdings may be on a path to profitability. Pre-profit companies are often risky, but they can also offer great rewards. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 4 warning signs for Damstra Holdings you should be aware of.
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.