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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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Warpaint London PLC (LON:W7L) makes use of debt. But the more important question is: how much risk is that debt creating?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.
View our latest analysis for Warpaint London
What Is Warpaint London's Net Debt?
You can click the graphic below for the historical numbers, but it shows that as of December 2018 Warpaint London had UK£2.13m of debt, an increase on UK£1.40m, over one year. However, it does have UK£4.04m in cash offsetting this, leading to net cash of UK£1.91m.
How Strong Is Warpaint London's Balance Sheet?
We can see from the most recent balance sheet that Warpaint London had liabilities of UK£6.69m falling due within a year, and liabilities of UK£2.35m due beyond that. On the other hand, it had cash of UK£4.04m and UK£11.5m worth of receivables due within a year. So it actually has UK£6.51m more liquid assets than total liabilities.
This surplus suggests that Warpaint London has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Warpaint London boasts net cash, so it's fair to say it does not have a heavy debt load!
But the bad news is that Warpaint London has seen its EBIT plunge 17% in the last twelve months. If that rate of decline in earnings continues, the company could find itself in a tight spot. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Warpaint London's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.