Here's Why Ruth's Hospitality Group (NASDAQ:RUTH) Can Manage Its Debt Responsibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Ruth's Hospitality Group, Inc. (NASDAQ:RUTH) makes use of debt. But is this debt a concern to shareholders?

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Ruth's Hospitality Group

What Is Ruth's Hospitality Group's Debt?

As you can see below, Ruth's Hospitality Group had US$50.0m of debt at March 2022, down from US$115.0m a year prior. But on the other hand it also has US$66.8m in cash, leading to a US$16.8m net cash position.

How Strong Is Ruth's Hospitality Group's Balance Sheet?

According to the last reported balance sheet, Ruth's Hospitality Group had liabilities of US$110.4m due within 12 months, and liabilities of US$262.0m due beyond 12 months. Offsetting this, it had US$66.8m in cash and US$26.8m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$278.7m.

Ruth's Hospitality Group has a market capitalization of US$569.9m, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. While it does have liabilities worth noting, Ruth's Hospitality Group also has more cash than debt, so we're pretty confident it can manage its debt safely.

Although Ruth's Hospitality Group made a loss at the EBIT level, last year, it was also good to see that it generated US$54m in EBIT over the last twelve months. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Ruth's Hospitality Group 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. While Ruth's Hospitality Group has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last year, Ruth's Hospitality Group produced sturdy free cash flow equating to 79% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While Ruth's Hospitality Group does have more liabilities than liquid assets, it also has net cash of US$16.8m. The cherry on top was that in converted 79% of that EBIT to free cash flow, bringing in US$42m. So we are not troubled with Ruth's Hospitality Group's debt use. 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. Be aware that Ruth's Hospitality Group is showing 1 warning sign in our investment analysis , you should know about...

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.