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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. When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, ecotel communication ag (ETR:E4C) does carry debt. But is this debt a concern to shareholders?
What Risk Does Debt Bring?
Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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 examine debt levels, we first consider both cash and debt levels, together.
View our latest analysis for ecotel communication ag
How Much Debt Does ecotel communication ag Carry?
The image below, which you can click on for greater detail, shows that at June 2019 ecotel communication ag had debt of €4.71m, up from €4.43m in one year. However, because it has a cash reserve of €4.21m, its net debt is less, at about €500.3k.
How Healthy Is ecotel communication ag's Balance Sheet?
According to the last reported balance sheet, ecotel communication ag had liabilities of €16.0m due within 12 months, and liabilities of €13.7m due beyond 12 months. Offsetting this, it had €4.21m in cash and €10.5m in receivables that were due within 12 months. So it has liabilities totalling €15.0m more than its cash and near-term receivables, combined.
This is a mountain of leverage relative to its market capitalization of €23.7m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).
ecotel communication ag's net debt to EBITDA ratio is very low, at 0.07, suggesting the debt is only trivial. But EBIT was only 5.3 times the interest expense last year, so the borrowing is clearly weighing on the business somewhat. ecotel communication ag grew its EBIT by 5.6% in the last year. That's far from incredible but it is a good thing, when it comes to paying off debt. There's no doubt that we learn most about debt from the balance sheet. But it is ecotel communication ag's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.