David Iben put it well when he said: ‘Volatility is not a risk we care about. What we care about is avoiding permanent capital loss.’ So it seems that the smart money knows that debt, which is usually involved in bankruptcies, is a very important factor when evaluating how risky a company is. we can see that Global Fashion Group S.A. (ETR:GFG) uses debt in its business. But should shareholders be concerned about their use of debt?
When is debt a problem?
Debt and other liabilities become risky for a company when it cannot easily meet those obligations, either with free cash flow or by raising capital at an attractive price. An integral part of capitalism is the process of “creative destruction” in which bankers mercilessly liquidate failing businesses. However, a more common (but still costly) situation is when a company must dilute shareholders at a cheap share price simply to control debt. Having said that, the most common situation is when a company manages its debt reasonably well, and for its own benefit. The first thing to do when considering how much debt a business uses is to look at your cash and debt together.
Our analysis indicates that GFG is potentially overpriced!
What is the net debt of Global Fashion Group?
As you can see below, Global Fashion Group had €268.4 million in debt as of June 2022, up from €338.3 million the previous year. However, his balance sheet shows that he has €488.7 million in cash, so he actually has €220.3 million in net cash.
A look at Global Fashion Group’s responsibilities
The latest balance sheet data shows that Global Fashion Group had liabilities of €594.7 million due within a year and liabilities of €419.1 million due later. To offset these obligations, it had cash amounting to 488.7 million euros, as well as accounts receivable valued at 50.5 million euros maturing in 12 months. Therefore, its liabilities exceed the sum of its cash and accounts receivable (short-term) by €474.6 million.
The lack here weighs heavily on the €294.5 million company itself, like a child struggling under the weight of a huge backpack full of books, his sports equipment and a trumpet. So we would keep a close eye on his balance sheet, no doubt. After all, Global Fashion Group is likely to require a major recapitalization if it were to pay its creditors today. Global Fashion Group has net cash, so it’s fair to say that it doesn’t have a large debt load, even if it does have very significant liabilities in total. There is no doubt that we learn more about debt from the balance sheet. But it is future earnings, more than anything else, that will determine Global Fashion Group’s ability to maintain a healthy bottom line going forward. So if you want to see what the pros think, you might find this free report on analyst earnings forecasts interesting.
Over 12 months, Global Fashion Group reported revenue of €1.7bn, representing a profit of 18%, although it did not report earnings before interest and taxes. We generally like to see faster growth from unprofitable companies, but to their own devices.
So how risky is Global Fashion Group?
We have no doubt that losing companies are generally riskier than profitable ones. And in the last year, Global Fashion Group had earnings before interest and taxes (EBIT), truth be told. And during the same period, it posted a negative free cash outflow of €98 million and recorded an accounting loss of €110 million. But at least it has 220.3 million euros on the balance sheet to spend on short-term growth. Overall, we would say the stock is a bit risky and we are generally very cautious until we see positive free cash flow. When looking at debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides on the balance sheet, far from it. These risks can be difficult to detect. All companies have them, and we have seen 2 warning signs for Global Fashion Group (of which 1 does not suit us very well!) that you should know.
At the end of the day, it’s often better to focus on companies that have no net debt. You can access our special list of such companies (all with a history of earnings growth). It’s free.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell any stock, and it does not take into account your goals or financial situation. Our goal is to provide you with long-term focused analysis driven by fundamental data. Please note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative material. Simply Wall St has no position in any of the stocks mentioned.