These 4 Measures Indicate That SSP Group (LON:SSPG) Is Using Debt Extensively

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.' 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 SSP Group plc (LON:SSPG) does use debt in its business. But is this debt a concern to shareholders?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for SSP Group

How Much Debt Does SSP Group Carry?

The image below, which you can click on for greater detail, shows that SSP Group had debt of UK£839.9m at the end of September 2022, a reduction from UK£1.08b over a year. However, because it has a cash reserve of UK£543.6m, its net debt is less, at about UK£296.3m.

How Strong Is SSP Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that SSP Group had liabilities of UK£1.05b due within 12 months and liabilities of UK£1.46b due beyond that. Offsetting this, it had UK£543.6m in cash and UK£131.6m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by UK£1.84b.

This is a mountain of leverage relative to its market capitalization of UK£2.08b. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). 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).

Even though SSP Group's debt is only 1.7, its interest cover is really very low at 0.93. The main reason for this is that it has such high depreciation and amortisation. While companies often boast that these charges are non-cash, most such businesses will therefore require ongoing investment (that is not expensed.) In any case, it's safe to say the company has meaningful debt. Notably, SSP Group made a loss at the EBIT level, last year, but improved that to positive EBIT of UK£74m in the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if SSP Group can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the last year, SSP Group actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

SSP Group's interest cover and level of total liabilities definitely weigh on it, in our esteem. But the good news is it seems to be able to convert EBIT to free cash flow with ease. We think that SSP Group's debt does make it a bit risky, after considering the aforementioned data points together. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. While SSP Group didn't make a statutory profit in the last year, its positive EBIT suggests that profitability might not be far away. Click here to see if its earnings are heading in the right direction, over the medium term.

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.

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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.