Is Cyrela Brazil Realty Empreendimentos e Participações (BVMF:CYRE3) Using Too Much Debt?

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. Importantly, Cyrela Brazil Realty S.A. Empreendimentos e Participações (BVMF:CYRE3) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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 frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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 Cyrela Brazil Realty Empreendimentos e Participações

What Is Cyrela Brazil Realty Empreendimentos e Participações's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2023 Cyrela Brazil Realty Empreendimentos e Participações had R$4.66b of debt, an increase on R$3.65b, over one year. On the flip side, it has R$2.79b in cash leading to net debt of about R$1.86b.

How Strong Is Cyrela Brazil Realty Empreendimentos e Participações' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Cyrela Brazil Realty Empreendimentos e Participações had liabilities of R$3.26b due within 12 months and liabilities of R$5.19b due beyond that. Offsetting these obligations, it had cash of R$2.79b as well as receivables valued at R$2.15b due within 12 months. So it has liabilities totalling R$3.51b more than its cash and near-term receivables, combined.

Cyrela Brazil Realty Empreendimentos e Participações has a market capitalization of R$8.82b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Cyrela Brazil Realty Empreendimentos e Participações has a debt to EBITDA ratio of 3.0, which signals significant debt, but is still pretty reasonable for most types of business. However, its interest coverage of 1k is very high, suggesting that the interest expense on the debt is currently quite low. Shareholders should be aware that Cyrela Brazil Realty Empreendimentos e Participações's EBIT was down 23% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Cyrela Brazil Realty Empreendimentos e Participações'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Looking at the most recent three years, Cyrela Brazil Realty Empreendimentos e Participações recorded free cash flow of 23% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

We'd go so far as to say Cyrela Brazil Realty Empreendimentos e Participações's EBIT growth rate was disappointing. But on the bright side, its interest cover is a good sign, and makes us more optimistic. Looking at the balance sheet and taking into account all these factors, we do believe that debt is making Cyrela Brazil Realty Empreendimentos e Participações stock a bit risky. Some people like that sort of risk, but we're mindful of the potential pitfalls, so we'd probably prefer it carry less debt. 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. Case in point: We've spotted 1 warning sign for Cyrela Brazil Realty Empreendimentos e Participações you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.