Is Y.H. Dimri Construction & Development (TLV:DIMRI) Using Too Much Debt?

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.' 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. We can see that Y.H. Dimri Construction & Development Ltd (TLV:DIMRI) does use debt in its business. But the more important question is: how much risk is that debt creating?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Y.H. Dimri Construction & Development

How Much Debt Does Y.H. Dimri Construction & Development Carry?

As you can see below, at the end of June 2021, Y.H. Dimri Construction & Development had ₪2.35b of debt, up from ₪2.16b a year ago. Click the image for more detail. However, because it has a cash reserve of ₪113.9m, its net debt is less, at about ₪2.24b.

A Look At Y.H. Dimri Construction & Development's Liabilities

We can see from the most recent balance sheet that Y.H. Dimri Construction & Development had liabilities of ₪903.0m falling due within a year, and liabilities of ₪1.92b due beyond that. Offsetting these obligations, it had cash of ₪113.9m as well as receivables valued at ₪358.5m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₪2.35b.

This deficit isn't so bad because Y.H. Dimri Construction & Development is worth ₪3.98b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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.

With a net debt to EBITDA ratio of 6.6, it's fair to say Y.H. Dimri Construction & Development does have a significant amount of debt. But the good news is that it boasts fairly comforting interest cover of 5.5 times, suggesting it can responsibly service its obligations. It is well worth noting that Y.H. Dimri Construction & Development's EBIT shot up like bamboo after rain, gaining 53% in the last twelve months. That'll make it easier to manage its debt. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Y.H. Dimri Construction & Development will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Y.H. Dimri Construction & Development saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

Neither Y.H. Dimri Construction & Development's ability to convert EBIT to free cash flow nor its net debt to EBITDA gave us confidence in its ability to take on more debt. But the good news is it seems to be able to grow its EBIT with ease. Taking the abovementioned factors together we do think Y.H. Dimri Construction & Development's debt poses some risks to the business. While that debt can boost returns, we think the company has enough leverage now. 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. Be aware that Y.H. Dimri Construction & Development is showing 1 warning sign in our investment analysis , you should know about...

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.

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.

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