Isramco Negev 2 Limited Partnership (TLV:ISRA) Seems To Use Debt Quite Sensibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Isramco Negev 2 Limited Partnership (TLV:ISRA) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Isramco Negev 2 Limited Partnership

How Much Debt Does Isramco Negev 2 Limited Partnership Carry?

As you can see below, Isramco Negev 2 Limited Partnership had US$443.5m of debt, at September 2023, which is about the same as the year before. You can click the chart for greater detail. However, because it has a cash reserve of US$187.0m, its net debt is less, at about US$256.5m.

How Healthy Is Isramco Negev 2 Limited Partnership's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Isramco Negev 2 Limited Partnership had liabilities of US$200.7m due within 12 months and liabilities of US$557.5m due beyond that. Offsetting these obligations, it had cash of US$187.0m as well as receivables valued at US$67.2m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$504.0m.

This deficit isn't so bad because Isramco Negev 2 Limited Partnership is worth US$1.24b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

With net debt sitting at just 1.0 times EBITDA, Isramco Negev 2 Limited Partnership is arguably pretty conservatively geared. And it boasts interest cover of 8.5 times, which is more than adequate. But the other side of the story is that Isramco Negev 2 Limited Partnership saw its EBIT decline by 6.0% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. There's no doubt that we learn most about debt from the balance sheet. But it is Isramco Negev 2 Limited Partnership's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the last three years, Isramco Negev 2 Limited Partnership recorded free cash flow worth a fulsome 98% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Our View

The good news is that Isramco Negev 2 Limited Partnership's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. But truth be told we feel its EBIT growth rate does undermine this impression a bit. Looking at all the aforementioned factors together, it strikes us that Isramco Negev 2 Limited Partnership can handle its debt fairly comfortably. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. 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. To that end, you should learn about the 3 warning signs we've spotted with Isramco Negev 2 Limited Partnership (including 1 which doesn't sit too well with us) .

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.