These 4 Measures Indicate That Boyd Group Services (TSE:BYD) Is Using Debt Reasonably Well

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.' 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, Boyd Group Services Inc. (TSE:BYD) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Boyd Group Services

What Is Boyd Group Services's Debt?

The image below, which you can click on for greater detail, shows that Boyd Group Services had debt of CA$229.5m at the end of December 2020, a reduction from CA$415.3m over a year. However, it does have CA$77.7m in cash offsetting this, leading to net debt of about CA$151.7m.

A Look At Boyd Group Services' Liabilities

The latest balance sheet data shows that Boyd Group Services had liabilities of CA$389.7m due within a year, and liabilities of CA$705.1m falling due after that. Offsetting this, it had CA$77.7m in cash and CA$118.5m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$898.6m.

Since publicly traded Boyd Group Services shares are worth a total of CA$4.76b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

While Boyd Group Services's low debt to EBITDA ratio of 0.80 suggests only modest use of debt, the fact that EBIT only covered the interest expense by 2.7 times last year does give us pause. But the interest payments are certainly sufficient to have us thinking about how affordable its debt is. Shareholders should be aware that Boyd Group Services's EBIT was down 23% last year. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. 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 Boyd Group Services's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of that EBIT is backed by free cash flow. Happily for any shareholders, Boyd Group Services actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Based on what we've seen Boyd Group Services is not finding it easy, given its EBIT growth rate, but the other factors we considered give us cause to be optimistic. In particular, we are dazzled with its conversion of EBIT to free cash flow. Looking at all this data makes us feel a little cautious about Boyd Group Services's debt levels. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. 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 Boyd Group Services .

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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