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 might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Sacyr, S.A. (BME:SCYR) does use debt in its business. 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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 Sacyr
How Much Debt Does Sacyr Carry?
The image below, which you can click on for greater detail, shows that at June 2022 Sacyr had debt of €8.87b, up from €7.43b in one year. However, it does have €1.73b in cash offsetting this, leading to net debt of about €7.14b.
How Healthy Is Sacyr's Balance Sheet?
According to the last reported balance sheet, Sacyr had liabilities of €4.13b due within 12 months, and liabilities of €11.0b due beyond 12 months. On the other hand, it had cash of €1.73b and €3.18b worth of receivables due within a year. So its liabilities total €10.2b more than the combination of its cash and short-term receivables.
This deficit casts a shadow over the €1.39b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, Sacyr would probably need a major re-capitalization if its creditors were to demand repayment.
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).
Weak interest cover of 1.8 times and a disturbingly high net debt to EBITDA ratio of 7.3 hit our confidence in Sacyr like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. Looking on the bright side, Sacyr boosted its EBIT by a silky 54% in the last year. Like a mother's loving embrace of a newborn that sort of growth builds resilience, putting the company in a stronger position to manage its debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Sacyr 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, Sacyr's free cash flow amounted to 44% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.
Our View
To be frank both Sacyr's net debt to EBITDA and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But on the bright side, its EBIT growth rate is a good sign, and makes us more optimistic. Looking at the bigger picture, it seems clear to us that Sacyr's use of debt is creating risks for the company. If everything goes well that may pay off but the downside of this debt is a greater risk of permanent losses. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Sacyr (of which 1 can't be ignored!) you should know about.
Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.
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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.
About BME:SCYR
Sacyr
Engages in the construction and infrastructure concession services businesses worldwide.
Adequate balance sheet with moderate growth potential.