Here's Why Blue Square Real Estate (TLV:BLSR) Has A Meaningful Debt Burden

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Blue Square Real Estate Ltd (TLV:BLSR) does carry debt. But the more important question is: how much risk is that debt creating?

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 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, 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 Blue Square Real Estate

How Much Debt Does Blue Square Real Estate Carry?

As you can see below, at the end of December 2022, Blue Square Real Estate had ₪5.03b of debt, up from ₪4.49b a year ago. Click the image for more detail. On the flip side, it has ₪1.39b in cash leading to net debt of about ₪3.64b.

How Healthy Is Blue Square Real Estate's Balance Sheet?

The latest balance sheet data shows that Blue Square Real Estate had liabilities of ₪632.5m due within a year, and liabilities of ₪5.24b falling due after that. Offsetting these obligations, it had cash of ₪1.39b as well as receivables valued at ₪279.4m due within 12 months. So its liabilities total ₪4.20b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the ₪2.64b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, Blue Square Real Estate 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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Weak interest cover of 0.84 times and a disturbingly high net debt to EBITDA ratio of 12.2 hit our confidence in Blue Square Real Estate like a one-two punch to the gut. The debt burden here is substantial. The good news is that Blue Square Real Estate improved its EBIT by 4.1% over the last twelve months, thus gradually reducing its debt levels relative to its earnings. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Blue Square Real Estate'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Blue Square Real Estate generated free cash flow amounting to a very robust 90% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Our View

To be frank both Blue Square Real Estate's net debt to EBITDA and its track record of covering its interest expense with its EBIT 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. Looking at the bigger picture, it seems clear to us that Blue Square Real Estate's use of debt is creating risks for the company. If all goes well, that should boost returns, but on the flip side, the risk of permanent capital loss is elevated by the debt. 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. We've identified 5 warning signs with Blue Square Real Estate (at least 1 which makes us a bit uncomfortable) , and understanding them should be part of your investment process.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.