Howard Marks says that instead of worrying about stock price fluctuations, “the possibility of permanent loss is the risk I worry about…and every practicing investor I know worries about that.” You expressed it well. It’s only natural to consider a company’s balance sheet when you consider how risky it is, since debt is often involved when a business collapses. Points to keep in mind are: Instone Real Estate Group SE (ETR:INS) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
What risks does debt pose?
Debt supports a company until the company has difficulty paying it back with new capital or free cash flow. In the worst case scenario, a company may go bankrupt if it is unable to pay its creditors. But a more frequent (and still costly) occurrence is when a company must issue stock at a bargain price, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in business, especially in capital-heavy businesses. The first step when considering a company’s debt levels is to consider its cash and debt together.
Check out our latest analysis for Instone Real Estate Group.
What is Instone Real Estate Group’s debt?
The graph below, which you can click on for greater detail, shows that Instone Real Estate Group had debt of €504.1m at September 2023. Almost the same as last year. However, it has a cash reserve of EUR 259.8m, so its net debt is lower at around EUR 244.3m.
How strong is Instone Real Estate Group’s balance sheet?
The most recent balance sheet shows that Instone Real Estate Group had liabilities of €706.8m falling due within a year, and liabilities of €451.1m falling due beyond that. Masu. On the other hand, it had cash of €259.8m and receivables worth €329.4m due within a year. So it has liabilities totaling €568.6m more than its cash and short-term receivables, combined.
The flaws here weigh heavily on the €322.8 million company itself, like a child struggling under the weight of a giant backpack full of books, sports equipment and a trumpet. So we will definitely be keeping a close eye on its balance sheet. At the end of the day, if creditors demand repayment, Instone Real Estate Group will likely need a major recapitalization.
To determine how much debt a company has 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, tax, and amortization (EBIT) divided by its interest expense. (its interest cover). The advantage of this approach is that it takes into account both the absolute amount of debt (net debt to EBITDA) and the actual interest expense associated with that debt (interest cover ratio).
Instone Real Estate Group’s debt-to-EBITDA ratio is 3.0, with its EBIT covering its interest expense 2.8 times. Taken together, this means that while we don’t want higher debt levels, we think the current leverage can be managed. Making matters worse, Instone Real Estate Group’s EBIT is down 35% over the last year. If earnings continue on this trajectory, paying down that debt will be harder than convincing someone to run a marathon in the rain. The balance sheet is clearly the area to focus on when analyzing debt. But more than anything, it will be future earnings that will determine whether Instone Real Estate Group can maintain a healthy balance sheet going forward.If you’re focused on the future, check this out free A report showing analyst profit forecasts.
Finally, companies need free cash flow to pay down debt. Accounting profits alone are not enough. So it’s worth checking how much of that EBIT is backed by free cash flow. Over the last three years, Instone Real Estate Group recorded free cash flow equivalent to his 78% of his EBIT. This is about normal considering free cash flow does not include interest and taxes. This cold cash means it can reduce debt if needed.
our view
Frankly, we’re quite uncomfortable with Instone Real Estate Group’s debt levels, given both its EBIT growth rate and its track record of maintaining its total debt. But at least it’s pretty decent at converting EBIT to free cash flow. That’s encouraging. Overall, Instone Real Estate Group’s balance sheet appears to be a very big risk to the business. In short, we’re as wary of this stock as we are of a hungry kitten falling into its owner’s fish pond. As the saying goes, once bitten, twice shy. There’s no question that we learn most about debt from the balance sheet. Ultimately, however, any company can contain risks that exist outside the balance sheet. We’ve identified 3 warning signs for you Instone Real Estate Group (there are at least two serious possibilities) and understanding them should be part of your investment process.
If you’re more interested in fast-growing companies with rock-solid balance sheets, then check out our list of net cash growth stocks without delay.
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This article by Simply Wall St is general in nature. We provide commentary using only unbiased methodologies, based on historical data and analyst forecasts, and articles are not intended to be financial advice. This is not a recommendation to buy or sell any stock, and does not take into account your objectives or financial situation. We aim to provide long-term, focused analysis based on fundamental data. Note that our analysis may not factor in the latest announcements or qualitative material from price-sensitive companies. Simply Wall St has no position in any stocks mentioned.