Is Studio City International Holdings (NYSE:MSC) Using Too Much Debt?

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. Importantly, Studio City International Holdings Limited (NYSE:MSC) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Studio City International Holdings

What Is Studio City International Holdings's Net Debt?

As you can see below, Studio City International Holdings had US$2.34b of debt at March 2024, down from US$2.44b a year prior. However, it also had US$207.1m in cash, and so its net debt is US$2.13b.

A Look At Studio City International Holdings' Liabilities

Zooming in on the latest balance sheet data, we can see that Studio City International Holdings had liabilities of US$124.3m due within 12 months and liabilities of US$2.35b due beyond that. On the other hand, it had cash of US$207.1m and US$62.8m worth of receivables due within a year. So its liabilities total US$2.21b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the US$1.34b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Studio City International Holdings would likely require a major re-capitalisation if it had to pay its creditors today.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Studio City International Holdings shareholders face the double whammy of a high net debt to EBITDA ratio (10.7), and fairly weak interest coverage, since EBIT is just 0.12 times the interest expense. The debt burden here is substantial. However, the silver lining was that Studio City International Holdings achieved a positive EBIT of US$15m in the last twelve months, an improvement on the prior year's loss. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Studio City International Holdings 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the last year, Studio City International Holdings saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

To be frank both Studio City International Holdings's conversion of EBIT to free cash flow and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least its EBIT growth rate is not so bad. We think the chances that Studio City International Holdings has too much debt a very significant. To us, that makes the stock rather risky, like walking through a dog park with your eyes closed. But some investors may feel differently. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Studio City International Holdings has 3 warning signs (and 2 which don't sit too well with us) we think you should know about.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com