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 SRG Global Limited (ASX:SRG) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. 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.

Check out our latest analysis for SRG Global

How Much Debt Does SRG Global Carry?

The image below, which you can click on for greater detail, shows that SRG Global had debt of AU$9.66m at the end of June 2021, a reduction from AU$10.5m over a year. But on the other hand it also has AU$46.4m in cash, leading to a AU$36.7m net cash position. debt-equity-history-analysis

How Strong Is SRG Global's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that SRG Global had liabilities of AU$177.2m due within 12 months and liabilities of AU$38.9m due beyond that. On the other hand, it had cash of AU$46.4m and AU$142.2m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$27.5m.

Since publicly traded SRG Global shares are worth a total of AU$225.1m, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, SRG Global boasts net cash, so it's fair to say it does not have a heavy debt load!



It was also good to see that despite losing money on the EBIT line last year, SRG Global turned things around in the last 12 months, delivering and EBIT of AU$21m. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine SRG Global's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this freereport showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While SRG Global has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last year, SRG Global actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

Although SRG Global's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of AU$36.7m. The cherry on top was that in converted 169% of that EBIT to free cash flow, bringing in AU$36m. So we don't think SRG Global's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - SRG Global has  1 warning sign  we think you should be aware of.

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 debt100% 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.