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. As with many other companies Playa Hotels & Resorts N.V. (NASDAQ:PLYA) makes use of debt. But the more important question is: how much risk is that debt creating?
What Risk Does Debt Bring?
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. 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.
How Much Debt Does Playa Hotels & Resorts Carry?
As you can see below, at the end of March 2021, Playa Hotels & Resorts had US$1.20b of debt, up from US$1.12b a year ago. Click the image for more detail. However, because it has a cash reserve of US$200.4m, its net debt is less, at about US$1.00b.
How Healthy Is Playa Hotels & Resorts' Balance Sheet?
The latest balance sheet data shows that Playa Hotels & Resorts had liabilities of US$95.3m due within a year, and liabilities of US$1.33b falling due after that. On the other hand, it had cash of US$200.4m and US$30.6m worth of receivables due within a year. So its liabilities total US$1.20b more than the combination of its cash and short-term receivables.
When you consider that this deficiency exceeds the company's US$1.18b market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. 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 Playa Hotels & Resorts 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.
In the last year Playa Hotels & Resorts had a loss before interest and tax, and actually shrunk its revenue by 72%, to US$172m. That makes us nervous, to say the least.
Not only did Playa Hotels & Resorts's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping US$184m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it had negative free cash flow of US$189m over the last twelve months. That means it's on the risky side of things. 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. Case in point: We've spotted 2 warning signs for Playa Hotels & Resorts you should be aware of.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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