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 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. We can see that Beasley Broadcast Group, Inc. (NASDAQ:BBGI) does use debt in its business. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can’t fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.
What Is Beasley Broadcast Group’s Net Debt?
The image below, which you can click on for greater detail, shows that at March 2020 Beasley Broadcast Group had debt of US$260.2m, up from US$240.8m in one year. However, it does have US$18.5m in cash offsetting this, leading to net debt of about US$241.7m.
How Strong Is Beasley Broadcast Group’s Balance Sheet?
The latest balance sheet data shows that Beasley Broadcast Group had liabilities of US$46.0m due within a year, and liabilities of US$428.3m falling due after that. Offsetting these obligations, it had cash of US$18.5m as well as receivables valued at US$46.7m due within 12 months. So it has liabilities totalling US$409.1m more than its cash and near-term receivables, combined.
The deficiency here weighs heavily on the US$57.4m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, Beasley Broadcast Group would probably need a major re-capitalization if its creditors were to demand repayment.
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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.
Beasley Broadcast Group shareholders face the double whammy of a high net debt to EBITDA ratio (6.6), and fairly weak interest coverage, since EBIT is just 1.6 times the interest expense. This means we’d consider it to have a heavy debt load. Even worse, Beasley Broadcast Group saw its EBIT tank 25% over the last 12 months. If earnings continue to follow that trajectory, paying off that debt load will be harder than convincing us to run a marathon in the rain. 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 Beasley Broadcast 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. So it’s worth checking how much of that EBIT is backed by free cash flow. Looking at the most recent three years, Beasley Broadcast Group recorded free cash flow of 49% of its EBIT, which is weaker than we’d expect. That’s not great, when it comes to paying down debt.
To be frank both Beasley Broadcast Group’s EBIT growth rate and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least its conversion of EBIT to free cash flow is not so bad. Taking into account all the aforementioned factors, it looks like Beasley Broadcast Group has too much debt. While some investors love that sort of risky play, it’s certainly not our cup of tea. 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. To that end, you should learn about the 5 warning signs we’ve spotted with Beasley Broadcast Group (including 1 which is is concerning) .
If you’re interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.
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