David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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 note that Event Hospitality & Entertainment Limited (ASX:EVT) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
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. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
What Is Event Hospitality & Entertainment's Debt?
The image below, which you can click on for greater detail, shows that at December 2020 Event Hospitality & Entertainment had debt of AU$532.5m, up from AU$405.4m in one year. However, it also had AU$81.3m in cash, and so its net debt is AU$451.2m.
A Look At Event Hospitality & Entertainment's Liabilities
The latest balance sheet data shows that Event Hospitality & Entertainment had liabilities of AU$370.5m due within a year, and liabilities of AU$1.35b falling due after that. Offsetting these obligations, it had cash of AU$81.3m as well as receivables valued at AU$93.4m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$1.54b.
This deficit is considerable relative to its market capitalization of AU$2.00b, so it does suggest shareholders should keep an eye on Event Hospitality & Entertainment's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Event Hospitality & Entertainment'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 Event Hospitality & Entertainment had a loss before interest and tax, and actually shrunk its revenue by 76%, to AU$283m. To be frank that doesn't bode well.
Not only did Event Hospitality & Entertainment's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping AU$218m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through AU$47m of cash over the last year. So suffice it to say we do consider the stock to be risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 1 warning sign we've spotted with Event Hospitality & Entertainment .
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
If you’re looking to trade Event Hospitality & Entertainment, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted
This article by Simply Wall St is general in nature. 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.
*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.