Is Restaurant Group (LON:RTN) Using Debt In A Risky Way?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We note that The Restaurant Group plc (LON:RTN) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Restaurant Group

How Much Debt Does Restaurant Group Carry?

As you can see below, Restaurant Group had UK£316.0m of debt at July 2021, down from UK£441.1m a year prior. However, it does have UK£115.8m in cash offsetting this, leading to net debt of about UK£200.3m.

How Strong Is Restaurant Group's Balance Sheet?

We can see from the most recent balance sheet that Restaurant Group had liabilities of UK£191.2m falling due within a year, and liabilities of UK£735.5m due beyond that. Offsetting this, it had UK£115.8m in cash and UK£25.4m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by UK£785.6m.

When you consider that this deficiency exceeds the company's UK£687.7m market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Restaurant Group'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.

Over 12 months, Restaurant Group made a loss at the EBIT level, and saw its revenue drop to UK£449m, which is a fall of 42%. That makes us nervous, to say the least.

Caveat Emptor

While Restaurant Group's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost UK£26m at the EBIT level. Considering that alongside the liabilities mentioned above make us nervous about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it burned through UK£18m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. 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. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for Restaurant Group (of which 1 doesn't sit too well with us!) you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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