We Think Ebix (NASDAQ:EBIX) Is Taking Some Risk With Its Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We note that Ebix, Inc. (NASDAQ:EBIX) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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.

See our latest analysis for Ebix

What Is Ebix's Net Debt?

As you can see below, Ebix had US$666.1m of debt at September 2021, down from US$716.0m a year prior. However, it also had US$101.0m in cash, and so its net debt is US$565.1m.

How Strong Is Ebix's Balance Sheet?

The latest balance sheet data shows that Ebix had liabilities of US$180.0m due within a year, and liabilities of US$678.1m falling due after that. Offsetting these obligations, it had cash of US$101.0m as well as receivables valued at US$171.0m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$586.1m.

This is a mountain of leverage relative to its market capitalization of US$923.0m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

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).

Ebix's debt is 4.2 times its EBITDA, and its EBIT cover its interest expense 3.3 times over. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. Even more troubling is the fact that Ebix actually let its EBIT decrease by 6.9% over the last year. If it keeps going like that paying off its debt will be like running on a treadmill -- a lot of effort for not much advancement. 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 Ebix's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. In the last three years, Ebix's free cash flow amounted to 44% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Our View

On the face of it, Ebix's interest cover left us tentative about the stock, and its net debt to EBITDA was no more enticing than the one empty restaurant on the busiest night of the year. Having said that, its ability to convert EBIT to free cash flow isn't such a worry. Looking at the balance sheet and taking into account all these factors, we do believe that debt is making Ebix stock a bit risky. That's not necessarily a bad thing, but we'd generally feel more comfortable with less leverage. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 3 warning signs we've spotted with Ebix (including 1 which can't be ignored) .

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.