Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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. We note that Grupo Hotelero Santa Fe, S.A.B. de C.V. (BMV:HOTEL) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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 Grupo Hotelero Santa Fe. de
What Is Grupo Hotelero Santa Fe. de's Debt?
The image below, which you can click on for greater detail, shows that at September 2020 Grupo Hotelero Santa Fe. de had debt of Mex$3.24b, up from Mex$2.95b in one year. On the flip side, it has Mex$130.6m in cash leading to net debt of about Mex$3.11b.
How Strong Is Grupo Hotelero Santa Fe. de's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Grupo Hotelero Santa Fe. de had liabilities of Mex$758.9m due within 12 months and liabilities of Mex$3.87b due beyond that. Offsetting these obligations, it had cash of Mex$130.6m as well as receivables valued at Mex$538.9m due within 12 months. So its liabilities total Mex$3.96b more than the combination of its cash and short-term receivables.
This deficit casts a shadow over the Mex$2.58b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, Grupo Hotelero Santa Fe. de would likely require a major re-capitalisation if it had to pay its creditors today. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Grupo Hotelero Santa Fe. de 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.
Over 12 months, Grupo Hotelero Santa Fe. de made a loss at the EBIT level, and saw its revenue drop to Mex$1.3b, which is a fall of 39%. That makes us nervous, to say the least.
Caveat Emptor
While Grupo Hotelero Santa Fe. de's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at Mex$53m. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. For example, we would not want to see a repeat of last year's loss of Mex$433m. And until that time we think this is a risky stock. When analysing debt levels, the balance sheet is the obvious place to start. 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 Grupo Hotelero Santa Fe. de (including 2 which is are potentially serious) .
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. 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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About BMV:HOTEL *
Grupo Hotelero Santa Fe. de
Acquires, develops, and operates beach and urban hotels in Mexico.
Slight with moderate growth potential.
