Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett said “volatility is far from risk.” So it seems like smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess the level of risk of a business. We notice that Archies Limited (NSE: ARCHIES) has debt on its balance sheet. But does this debt worry shareholders?

When is debt dangerous?

Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. An integral part of capitalism is the process of “creative destruction” where bankrupt companies are ruthlessly liquidated by their bankers. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, many companies use debt to finance their growth without negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash flow and debt together.

See our latest review for Archies

What is Archies’ debt?

You can click on the graph below for the historical figures, but it shows that Archies had 223.6 million yen in debt in September 2021, up from 302.9 million yen a year earlier. On the other hand, it has 7.82 million euros in cash, resulting in net debt of around 215.8 million euros.

A look at the responsibilities of Archies

The latest balance sheet data shows Archies had liabilities of 527.1 million yen due within one year, and liabilities of 317.1 million yen due after that. In return, he had 7.82 million in cash and 121.0 million in receivables due within 12 months. It therefore has liabilities totaling € 715.5 million more than its combined cash and short-term receivables.

Since this deficit is actually greater than the company’s market cap of 631.7 million yen, we think shareholders should really watch Archies’ debt levels, like a parent watching their child do. cycling for the first time. In theory, extremely large dilution would be required if the company were forced to repay debts by raising capital at the current share price. When analyzing debt levels, the balance sheet is the obvious place to start. But you can’t look at debt in isolation; since Archies will need income to pay off this debt. So, when considering debt, it is really worth looking at the profit trend. Click here for an interactive snapshot.

Over 12 months, Archies recorded a loss in EBIT and saw its turnover fall to 687 million euros, a decrease of 20%. This is not what we hope to see.

Emptor Warning

While Archies’ decline in income is about as heartwarming as a wet blanket, its earnings before interest and taxes (EBIT) can be said to be even less appealing. Indeed, it lost a very considerable amount of 271 million euros at the EBIT level. When we look at this alongside the material liabilities, we’re not particularly confident in the business. It would have to improve its functioning quickly for us to take an interest in it. For example, we wouldn’t want to see a repeat of last year’s € 20million loss. In the meantime, we consider the title to be risky. When analyzing debt levels, the balance sheet is the obvious place to start. However, not all investment risks lie on the balance sheet – far from it. To do this, you need to know the 2 warning signs we spotted with Archies.

At the end of the day, it’s often best to focus on businesses with no net debt. You can access our special list of these companies (all with a history of profit 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 does not constitute a recommendation to buy or sell any stock and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in any of the stocks mentioned.