These 4 Measures Indicate That Paramount Global (NASDAQ:PARA) Is Using Debt In A Risky Way

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Paramount Global (NASDAQ:PARA) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. 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. 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 Paramount Global

What Is Paramount Global's Net Debt?

As you can see below, Paramount Global had US$15.8b of debt, at June 2023, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has US$1.71b in cash leading to net debt of about US$14.1b.

How Healthy Is Paramount Global's Balance Sheet?

We can see from the most recent balance sheet that Paramount Global had liabilities of US$10.7b falling due within a year, and liabilities of US$22.5b due beyond that. On the other hand, it had cash of US$1.71b and US$7.19b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$24.3b.

The deficiency here weighs heavily on the US$7.41b 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'd watch its balance sheet closely, without a doubt. After all, Paramount Global would likely require a major re-capitalisation if it had to pay its creditors today.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Paramount Global has a rather high debt to EBITDA ratio of 5.8 which suggests a meaningful debt load. But the good news is that it boasts fairly comforting interest cover of 2.6 times, suggesting it can responsibly service its obligations. Worse, Paramount Global's EBIT was down 32% over the last year. 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. 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 Paramount Global'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.

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. Over the last three years, Paramount Global reported free cash flow worth 8.8% of its EBIT, which is really quite low. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Our View

On the face of it, Paramount Global's EBIT growth rate left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. And even its interest cover fails to inspire much confidence. Considering all the factors previously mentioned, we think that Paramount Global really is carrying too much debt. To our minds, that means the stock is rather high risk, and probably one to avoid; but to each their own (investing) style. 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. For instance, we've identified 2 warning signs for Paramount Global that you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.