Is SOCEP (BVB: SOCP) a risky investment?

Warren Buffett said: “Volatility is far from synonymous with 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. Above all, SOCEP SA (BVB: SOCP) is in debt. But the most important question is: what risk does this debt create?

What risk does debt entail?

Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. 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. When we look at debt levels, we first look at cash and debt levels, together.

See our latest analysis for SOCEP

How many debts does SOCEP have?

You can click on the graph below for historical figures, but it shows that in December 2020 SOCEP had a debt of RON 43.0 million, an increase from RON 17.1 million, on a year. On the other hand, he has RON 20.4 million in cash, resulting in a net debt of around RON 22.6 million.

BVB: SOCP History of debt to equity May 27, 2021

A look at SOCEP’s liabilities

Zooming in on the latest balance sheet data, we can see that SOCEP had a liability of RON 19.7 million due within 12 months and a liability of RON 198.5 million beyond. On the other hand, he had cash of RON 20.4 million and RON 21.0 million in receivables due within one year. Thus, its liabilities exceed the sum of its cash and (short-term) receivables by 176.8 million RON.

Since this deficit is actually greater than the company’s market capitalization of RON 165.5 million, we believe shareholders should really watch SOCEP’s debt levels, like a parent watching their child do. cycling for the first time. Hypothetically, extremely high dilution would be required if the company were forced to repay its debts by raising capital at the current share price.

We use two main ratios to inform us about the levels of debt compared to earnings. The first is net debt divided by earnings before interest, taxes, depreciation, and amortization (EBITDA), while the second is the number of times its earnings before interest and taxes (EBIT) covers its interest expense (or its coverage of interest, for short). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.

SOCEP has net debt of just 0.68 times EBITDA, which suggests it could increase its leverage without breaking a sweat. But what’s really cool is that he actually managed to earn more interest than he paid, in the last year or so. So it’s fair to say he can handle debt like a hotshot teppanyaki chef handles the kitchen. In fact, SOCEP’s saving grace is its low level of debt, as its EBIT has fallen 38% in the past twelve months. When it comes to paying down debt, lower income is no more helpful to your health than sugary sodas. There is no doubt that we learn the most about debt from the balance sheet. But you can’t look at debt in isolation; since SOCEP will need income to repay this debt. So if you want to know more about its profits, it may be worth checking out this long term profit trend chart.

Finally, while the IRS may love accounting profits, lenders only accept hard cash. The logical step is therefore to examine the proportion of this EBIT that corresponds to the actual free cash flow. Over the past three years SOCEP has spent a lot of money. While this may be the result of spending for growth, it makes debt much riskier.

Our point of view

At first glance, SOCEP’s EBIT conversion to free cash flow left us hesitant about the stock, and its EBIT growth rate was no more attractive than the single empty restaurant on the busiest night. of the year. But at least it’s decent enough to cover its interest costs with its EBIT; it’s encouraging. It’s also worth noting that SOCEP is in the infrastructure industry, which is often seen as quite defensive. We are pretty clear that we consider SOCEP to be really quite risky, given the health of its balance sheet. We are therefore almost as wary of this stock as a hungry kitten falls into its owner’s fish pond: once bitten, twice shy, as they say. The balance sheet is clearly the area to focus on when analyzing debt. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, SOCEP has 4 warning signs (and 2 which don’t suit us very well) we think you should be aware of.

At the end of the day, it’s often best to focus on businesses that don’t have 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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About Jermaine Chase

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