Is Bezeq The Israel Telecommunication (TLV:BEZQ) Using Too Much Debt?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. Importantly, Bezeq The Israel Telecommunication Corp. Ltd (TLV:BEZQ) does carry debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Bezeq The Israel Telecommunication

How Much Debt Does Bezeq The Israel Telecommunication Carry?

The image below, which you can click on for greater detail, shows that Bezeq The Israel Telecommunication had debt of ₪8.02b at the end of September 2021, a reduction from ₪9.46b over a year. On the flip side, it has ₪1.79b in cash leading to net debt of about ₪6.23b.

A Look At Bezeq The Israel Telecommunication's Liabilities

The latest balance sheet data shows that Bezeq The Israel Telecommunication had liabilities of ₪3.41b due within a year, and liabilities of ₪9.24b falling due after that. On the other hand, it had cash of ₪1.79b and ₪1.86b worth of receivables due within a year. So it has liabilities totalling ₪8.99b more than its cash and near-term receivables, combined.

This deficit is considerable relative to its market capitalization of ₪14.6b, so it does suggest shareholders should keep an eye on Bezeq The Israel Telecommunication's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe 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).

With a debt to EBITDA ratio of 2.1, Bezeq The Israel Telecommunication uses debt artfully but responsibly. And the alluring interest cover (EBIT of 7.3 times interest expense) certainly does not do anything to dispel this impression. Bezeq The Israel Telecommunication grew its EBIT by 2.4% in the last year. That's far from incredible but it is a good thing, when it comes to paying off debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Bezeq The Israel Telecommunication can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. 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, Bezeq The Israel Telecommunication generated free cash flow amounting to a very robust 87% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Our View

On our analysis Bezeq The Israel Telecommunication's conversion of EBIT to free cash flow should signal that it won't have too much trouble with its debt. However, our other observations weren't so heartening. For example, its level of total liabilities makes us a little nervous about its debt. Considering this range of data points, we think Bezeq The Israel Telecommunication is in a good position to manage its debt levels. But a word of caution: we think debt levels are high enough to justify ongoing monitoring. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 1 warning sign for Bezeq The Israel Telecommunication that you should be aware of before investing here.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.