Is National Express Group (LON:NEX) 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.' 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. As with many other companies National Express Group PLC (LON:NEX) makes use of debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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 step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for National Express Group

What Is National Express Group's Net Debt?

As you can see below, at the end of June 2022, National Express Group had UK£1.30b of debt, up from UK£1.25b a year ago. Click the image for more detail. However, it does have UK£341.9m in cash offsetting this, leading to net debt of about UK£961.6m.

A Look At National Express Group's Liabilities

According to the last reported balance sheet, National Express Group had liabilities of UK£1.18b due within 12 months, and liabilities of UK£1.63b due beyond 12 months. Offsetting this, it had UK£341.9m in cash and UK£527.5m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by UK£1.94b.

This deficit casts a shadow over the UK£778.6m company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, National Express Group 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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Weak interest cover of 0.33 times and a disturbingly high net debt to EBITDA ratio of 5.1 hit our confidence in National Express Group like a one-two punch to the gut. The debt burden here is substantial. However, the silver lining was that National Express Group achieved a positive EBIT of UK£14m in the last twelve months, an improvement on the prior year's loss. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine National Express Group'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. 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, National Express Group actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

On the face of it, National Express Group's interest cover left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. 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 National Express Group has enough debt that there are some real risks around the balance sheet. If everything goes well that may pay off but the downside of this debt is a greater risk of permanent losses. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 1 warning sign for National Express Group you should be aware of.

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.