Stock Analysis

Here's Why Brill Shoe Industries (TLV:BRIL) Is Weighed Down By Its Debt Load

TASE:BRIL
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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 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 can see that Brill Shoe Industries Ltd. (TLV:BRIL) 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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Brill Shoe Industries

What Is Brill Shoe Industries's Debt?

As you can see below, Brill Shoe Industries had ₪123.2m of debt at September 2020, down from ₪155.2m a year prior. And it doesn't have much cash, so its net debt is about the same.

debt-equity-history-analysis
TASE:BRIL Debt to Equity History March 25th 2021

A Look At Brill Shoe Industries' Liabilities

The latest balance sheet data shows that Brill Shoe Industries had liabilities of ₪168.3m due within a year, and liabilities of ₪199.9m falling due after that. On the other hand, it had cash of ₪2.30m and ₪82.6m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₪283.3m.

This deficit casts a shadow over the ₪36.1m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Brill Shoe Industries would likely require a major re-capitalisation if it had to pay its creditors today.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Weak interest cover of 0.26 times and a disturbingly high net debt to EBITDA ratio of 7.4 hit our confidence in Brill Shoe Industries like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. Worse, Brill Shoe Industries's EBIT was down 75% over the last year. If earnings continue to follow that trajectory, paying off that debt load will be harder than convincing us to run a marathon in the rain. There's no doubt that we learn most about debt from the balance sheet. But it is Brill Shoe Industries'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Happily for any shareholders, Brill Shoe Industries actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Our View

To be frank both Brill Shoe Industries's EBIT growth rate 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 conversion of EBIT to free cash flow is a good sign, and makes us more optimistic. Taking into account all the aforementioned factors, it looks like Brill Shoe Industries has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. 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 Brill Shoe Industries you should know about.

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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