Yahoo Finance Is System1 Group (LON:SYS1) Using Too Much Debt?
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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies System1 Group PLC (LON:SYS1) makes use of debt. But should shareholders be worried about its use of debt?
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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.
View our latest analysis for System1 Group
How Much Debt Does System1 Group Carry?
You can click the graphic below for the historical numbers, but it shows that System1 Group had UK£2.50m of debt in September 2021, down from UK£2.99m, one year before. But on the other hand it also has UK£10.0m in cash, leading to a UK£7.54m net cash position.
How Strong Is System1 Group's Balance Sheet?
We can see from the most recent balance sheet that System1 Group had liabilities of UK£6.56m falling due within a year, and liabilities of UK£4.25m due beyond that. Offsetting this, it had UK£10.0m in cash and UK£6.80m in receivables that were due within 12 months. So it can boast UK£6.03m more liquid assets than total liabilities.
This surplus suggests that System1 Group has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that System1 Group has more cash than debt is arguably a good indication that it can manage its debt safely.
It was also good to see that despite losing money on the EBIT line last year, System1 Group turned things around in the last 12 months, delivering and EBIT of UK£4.8m. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if System1 Group 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.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. System1 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 year, System1 Group recorded free cash flow worth a fulsome 83% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.
Summing up
While it is always sensible to investigate a company's debt, in this case System1 Group has UK£7.54m in net cash and a decent-looking balance sheet. The cherry on top was that in converted 83% of that EBIT to free cash flow, bringing in UK£4.0m. So is System1 Group's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 5 warning signs for System1 Group (1 is a bit concerning!) that you should be aware of before investing here.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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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.
