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. We can see that The Children's Place, Inc. (NASDAQ:PLCE) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Children's Place

How Much Debt Does Children's Place Carry?

As you can see below, at the end of July 2023, Children's Place had US$397.3m of debt, up from US$333.6m a year ago. Click the image for more detail. On the flip side, it has US$18.8m in cash leading to net debt of about US$378.5m.

How Strong Is Children's Place's Balance Sheet?

According to the last reported balance sheet, Children's Place had liabilities of US$800.2m due within 12 months, and liabilities of US$137.0m due beyond 12 months. Offsetting these obligations, it had cash of US$18.8m as well as receivables valued at US$52.2m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$866.1m.

This deficit casts a shadow over the US$334.7m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Children's Place would likely require a major re-capitalisation if it had to pay its creditors today. 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 Children's Place's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

In the last year Children's Place had a loss before interest and tax, and actually shrunk its revenue by 9.8%, to US$1.6b. That's not what we would hope to see.

Caveat Emptor

Importantly, Children's Place had an earnings before interest and tax (EBIT) loss over the last year. Its EBIT loss was a whopping US$60m. Combining this information with the significant liabilities we already touched on makes us very hesitant about this stock, to say the least. Of course, it may be able to improve its situation with a bit of luck and good execution. But we think that is unlikely, given it is low on liquid assets, and burned through US$33m in the last year. So we think this stock is risky, like walking through a dirty dog park with a mask on. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Children's Place you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.