These 4 Measures Indicate That Santos Brasil Participações (BVMF:STBP3) Is Using Debt Reasonably Well

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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 Santos Brasil Participações S.A. (BVMF:STBP3) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Santos Brasil Participações

What Is Santos Brasil Participações's Debt?

The image below, which you can click on for greater detail, shows that Santos Brasil Participações had debt of R$410.7m at the end of June 2021, a reduction from R$436.0m over a year. However, its balance sheet shows it holds R$1.10b in cash, so it actually has R$688.3m net cash.

How Strong Is Santos Brasil Participações' Balance Sheet?

We can see from the most recent balance sheet that Santos Brasil Participações had liabilities of R$403.1m falling due within a year, and liabilities of R$1.92b due beyond that. Offsetting this, it had R$1.10b in cash and R$197.3m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by R$1.03b.

Santos Brasil Participações has a market capitalization of R$4.99b, 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. Despite its noteworthy liabilities, Santos Brasil Participações boasts net cash, so it's fair to say it does not have a heavy debt load!

Pleasingly, Santos Brasil Participações is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 217% gain in the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Santos Brasil Participações can strengthen its balance sheet over time. 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. Santos Brasil Participações may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Santos Brasil Participações recorded negative free cash flow, in total. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Summing up

While Santos Brasil Participações does have more liabilities than liquid assets, it also has net cash of R$688.3m. And it impressed us with its EBIT growth of 217% over the last year. So we don't have any problem with Santos Brasil Participações's use of debt. 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. For example, we've discovered 1 warning sign for Santos Brasil Participações that you should be aware of before investing here.

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.

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.

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