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. We can see that Shake Shack Inc. (NYSE:SHAK) does use debt in its business. But the more important question is: how much risk is that debt creating?
What Risk Does Debt Bring?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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 step when considering a company's debt levels is to consider its cash and debt together.
What Is Shake Shack's Net Debt?
As you can see below, Shake Shack had US$244.1m of debt, at June 2022, which is about the same as the year before. You can click the chart for greater detail. However, it does have US$358.0m in cash offsetting this, leading to net cash of US$113.9m.
A Look At Shake Shack's Liabilities
According to the last reported balance sheet, Shake Shack had liabilities of US$133.9m due within 12 months, and liabilities of US$918.5m due beyond 12 months. On the other hand, it had cash of US$358.0m and US$11.9m worth of receivables due within a year. So its liabilities total US$682.6m more than the combination of its cash and short-term receivables.
Shake Shack has a market capitalization of US$1.91b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Shake Shack also has more cash than debt, so we're pretty confident it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Shake Shack's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
Over 12 months, Shake Shack reported revenue of US$831m, which is a gain of 32%, although it did not report any earnings before interest and tax. With any luck the company will be able to grow its way to profitability.
So How Risky Is Shake Shack?
We have no doubt that loss making companies are, in general, riskier than profitable ones. And in the last year Shake Shack had an earnings before interest and tax (EBIT) loss, truth be told. Indeed, in that time it burnt through US$55m of cash and made a loss of US$23m. With only US$113.9m on the balance sheet, it would appear that its going to need to raise capital again soon. With very solid revenue growth in the last year, Shake Shack may be on a path to profitability. By investing before those profits, shareholders take on more risk in the hope of bigger rewards. For riskier companies like Shake Shack I always like to keep an eye on the long term profit and revenue trends. Fortunately, you can click to see our interactive graph of its profit, revenue, and operating cashflow.
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.
What are the risks and opportunities for Shake Shack?
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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.