Stock Analysis

Rába Jármûipari Holding Nyrt (BUSE:RABA) Seems To Be Using A Lot Of Debt

BUSE:RABA
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Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 Rába Jármûipari Holding Nyrt. (BUSE:RABA) does use debt in its business. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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 Rába Jármûipari Holding Nyrt

What Is Rába Jármûipari Holding Nyrt's Net Debt?

The image below, which you can click on for greater detail, shows that at June 2022 Rába Jármûipari Holding Nyrt had debt of Ft13.3b, up from Ft10.3b in one year. And it doesn't have much cash, so its net debt is about the same.

debt-equity-history-analysis
BUSE:RABA Debt to Equity History September 22nd 2022

A Look At Rába Jármûipari Holding Nyrt's Liabilities

Zooming in on the latest balance sheet data, we can see that Rába Jármûipari Holding Nyrt had liabilities of Ft17.6b due within 12 months and liabilities of Ft11.7b due beyond that. Offsetting these obligations, it had cash of Ft153.1m as well as receivables valued at Ft10.5b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by Ft18.7b.

Given this deficit is actually higher than the company's market capitalization of Ft15.6b, we think shareholders really should watch Rába Jármûipari Holding Nyrt's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution.

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).

Rába Jármûipari Holding Nyrt shareholders face the double whammy of a high net debt to EBITDA ratio (5.4), and fairly weak interest coverage, since EBIT is just 1.1 times the interest expense. This means we'd consider it to have a heavy debt load. Worse, Rába Jármûipari Holding Nyrt's EBIT was down 97% over the last year. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. There's no doubt that we learn most about debt from the balance sheet. But it is Rába Jármûipari Holding Nyrt's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last two years, Rába Jármûipari Holding Nyrt saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

On the face of it, Rába Jármûipari Holding Nyrt's conversion of EBIT to free cash flow left us tentative about the stock, and its EBIT growth rate was no more enticing than the one empty restaurant on the busiest night of the year. And even its net debt to EBITDA fails to inspire much confidence. We think the chances that Rába Jármûipari Holding Nyrt has too much debt a very significant. To us, that makes the stock rather risky, like walking through a dog park with your eyes closed. But some investors may feel differently. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 3 warning signs we've spotted with Rába Jármûipari Holding Nyrt (including 2 which are significant) .

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.