Is Grupo Empresas Navieras (SNSE:NAVIERA) A Risky Investment?

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 Grupo Empresas Navieras S.A. (SNSE:NAVIERA) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Grupo Empresas Navieras

What Is Grupo Empresas Navieras's Debt?

The image below, which you can click on for greater detail, shows that at September 2020 Grupo Empresas Navieras had debt of US$586.2m, up from US$526.5m in one year. However, because it has a cash reserve of US$115.2m, its net debt is less, at about US$471.0m.

How Strong Is Grupo Empresas Navieras' Balance Sheet?

The latest balance sheet data shows that Grupo Empresas Navieras had liabilities of US$233.9m due within a year, and liabilities of US$553.4m falling due after that. Offsetting this, it had US$115.2m in cash and US$110.2m in receivables that were due within 12 months. So it has liabilities totalling US$561.8m more than its cash and near-term receivables, combined.

This deficit casts a shadow over the US$170.7m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Grupo Empresas Navieras would likely require a major re-capitalisation if it had to pay its creditors today.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (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).

Grupo Empresas Navieras has a debt to EBITDA ratio of 3.9 and its EBIT covered its interest expense 2.8 times. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. More concerning, Grupo Empresas Navieras saw its EBIT drop by 7.2% in the last twelve months. If that earnings trend continues the company will face an uphill battle to pay off its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is Grupo Empresas Navieras's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Grupo Empresas Navieras generated free cash flow amounting to a very robust 89% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Our View

We'd go so far as to say Grupo Empresas Navieras's level of total liabilities was disappointing. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Overall, we think it's fair to say that Grupo Empresas Navieras has enough debt that there are some real risks around the balance sheet. If all goes well, that should boost returns, but on the flip side, the risk of permanent capital loss is elevated by the debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Consider for instance, the ever-present spectre of investment risk. We've identified 2 warning signs with Grupo Empresas Navieras (at least 1 which shouldn't be ignored) , and understanding them should be part of your investment process.

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. 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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