Here's Why Golden Entertainment (NASDAQ:GDEN) Has A Meaningful Debt Burden

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Golden Entertainment, Inc. (NASDAQ:GDEN) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Golden Entertainment

What Is Golden Entertainment's Net Debt?

The image below, which you can click on for greater detail, shows that Golden Entertainment had debt of US$899.8m at the end of March 2023, a reduction from US$984.3m over a year. However, it does have US$110.5m in cash offsetting this, leading to net debt of about US$789.4m.

A Look At Golden Entertainment's Liabilities

We can see from the most recent balance sheet that Golden Entertainment had liabilities of US$161.9m falling due within a year, and liabilities of US$985.5m due beyond that. On the other hand, it had cash of US$110.5m and US$15.1m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$1.02b.

This deficit is considerable relative to its market capitalization of US$1.13b, so it does suggest shareholders should keep an eye on Golden Entertainment's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

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.

While we wouldn't worry about Golden Entertainment's net debt to EBITDA ratio of 3.2, we think its super-low interest cover of 2.2 times is a sign of high leverage. It seems clear that the cost of borrowing money is negatively impacting returns for shareholders, of late. Another concern for investors might be that Golden Entertainment's EBIT fell 14% in the last year. If things keep going like that, handling the debt will about as easy as bundling an angry house cat into its travel box. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Golden Entertainment can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of that EBIT is backed by free cash flow. Over the last two years, Golden Entertainment actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

On the face of it, Golden Entertainment's EBIT growth rate left us tentative about the stock, and its interest cover was no more enticing than the one empty restaurant on the busiest night of the year. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Looking at the balance sheet and taking into account all these factors, we do believe that debt is making Golden Entertainment stock a bit risky. That's not necessarily a bad thing, but we'd generally feel more comfortable with less leverage. 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. For example, we've discovered 2 warning signs for Golden Entertainment (1 is a bit concerning!) that you should be aware of before investing here.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.