Red Rock Resorts (NASDAQ:RRR) Has A Somewhat Strained Balance Sheet

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 can see that Red Rock Resorts, Inc. (NASDAQ:RRR) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Red Rock Resorts

What Is Red Rock Resorts's Net Debt?

The image below, which you can click on for greater detail, shows that at December 2023 Red Rock Resorts had debt of US$3.33b, up from US$2.98b in one year. On the flip side, it has US$137.6m in cash leading to net debt of about US$3.19b.

How Healthy Is Red Rock Resorts' Balance Sheet?

According to the last reported balance sheet, Red Rock Resorts had liabilities of US$349.2m due within 12 months, and liabilities of US$3.36b due beyond 12 months. Offsetting this, it had US$137.6m in cash and US$76.4m in receivables that were due within 12 months. So it has liabilities totalling US$3.50b more than its cash and near-term receivables, combined.

This deficit isn't so bad because Red Rock Resorts is worth US$5.84b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Red Rock Resorts's debt is 4.4 times its EBITDA, and its EBIT cover its interest expense 3.3 times over. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. Notably, Red Rock Resorts's EBIT was pretty flat over the last year, which isn't ideal given the debt load. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Red Rock 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, Red Rock Resorts's free cash flow amounted to 31% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

On the face of it, Red Rock Resorts's interest cover left us tentative about the stock, and its net debt to EBITDA was no more enticing than the one empty restaurant on the busiest night of the year. Having said that, its ability to grow its EBIT isn't such a worry. Once we consider all the factors above, together, it seems to us that Red Rock Resorts's debt is making it 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 instance, we've identified 3 warning signs for Red Rock Resorts (1 is a bit concerning) 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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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.