Is Star Bulk Carriers (NASDAQ:SBLK) A Risky Investment?

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.' 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. As with many other companies Star Bulk Carriers Corp. (NASDAQ:SBLK) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. 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.

Check out our latest analysis for Star Bulk Carriers

What Is Star Bulk Carriers's Net Debt?

As you can see below, at the end of March 2023, Star Bulk Carriers had US$1.25b of debt, up from US$1.05b a year ago. Click the image for more detail. However, it also had US$252.5m in cash, and so its net debt is US$993.4m.

A Look At Star Bulk Carriers' Liabilities

We can see from the most recent balance sheet that Star Bulk Carriers had liabilities of US$310.8m falling due within a year, and liabilities of US$1.07b due beyond that. Offsetting this, it had US$252.5m in cash and US$84.4m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$1.04b.

This deficit isn't so bad because Star Bulk Carriers is worth US$1.86b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

With a debt to EBITDA ratio of 1.5, Star Bulk Carriers uses debt artfully but responsibly. And the fact that its trailing twelve months of EBIT was 8.6 times its interest expenses harmonizes with that theme. It is just as well that Star Bulk Carriers's load is not too heavy, because its EBIT was down 43% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Star Bulk Carriers 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 we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Happily for any shareholders, Star Bulk Carriers actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Star Bulk Carriers's EBIT growth rate and level of total liabilities definitely weigh on it, in our esteem. But its conversion of EBIT to free cash flow tells a very different story, and suggests some resilience. We think that Star Bulk Carriers's debt does make it a bit risky, after considering the aforementioned data points together. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. 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 be aware of the 3 warning signs we've spotted with Star Bulk Carriers .

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.

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.