Some say volatility, rather than debt, is the best way to view risk as an investor, but Warren Buffett said “volatility is far from risk.” So it seems like smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess the level of risk of a business. Like many other companies The ONE Group Hospitality, Inc. (NASDAQ: STKS) uses debt. But the real question is whether this debt makes the business risky.
When is debt dangerous?
Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, then it exists at their mercy. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that he must raise new equity at low cost, thereby diluting shareholders over the long term. Of course, many companies use debt to finance their growth without negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash flow and debt together.
Check out our latest analysis for ONE Group Hospitality
How much debt does ONE Group Hospitality have?
The image below, which you can click for more details, shows ONE Group Hospitality owed $ 55.4 million in debt at the end of June 2021, a reduction from $ 64.0 million. US over one year. However, given that it has a cash reserve of $ 41.4 million, its net debt is less, at around $ 14.0 million.
How strong is ONE Group Hospitality’s balance sheet?
The latest balance sheet data shows that ONE Group Hospitality had debt of US $ 50.2 million due within one year, and debt of US $ 141.4 million due thereafter. In return, he had $ 41.4 million in cash and $ 6.95 million in receivables due within 12 months. As a result, its liabilities exceed the sum of its cash and (short-term) receivables by $ 143.2 million.
ONE Group Hospitality has a market capitalization of US $ 377.6 million, so it could most likely raise cash to improve its balance sheet, should the need arise. But it is clear that it is absolutely necessary to take a close look at whether it can manage its debt without dilution.
We use two main ratios to inform us about the levels of debt compared to earnings. The first is net debt divided by earnings before interest, taxes, depreciation, and amortization (EBITDA), while the second is the number of times its profit before interest and taxes (EBIT) covers its interest expense (or its coverage of interest, for short). Thus, we consider debt versus earnings with and without amortization charges.
While ONE Group Hospitality’s low debt-to-EBITDA ratio of 0.55 suggests only a modest use of debt, the fact that EBIT only covered interest expense 2.7 times over the past year makes think. But the interest payments are certainly enough to make us think about how affordable his debt is. We also note that ONE Group Hospitality improved its EBIT from a loss last year to a positive amount of US $ 15 million. When analyzing debt levels, the balance sheet is the obvious starting point. But ultimately, the future profitability of the business will decide whether ONE Group Hospitality can strengthen its balance sheet over time. So if you are focused on the future you can check this out free report showing analysts’ earnings forecasts.
Finally, a business needs free cash flow to repay its debts; accounting profits are not enough. It is therefore worth checking to what extent earnings before interest and taxes (EBIT) are backed by free cash flow. Fortunately for all shareholders, ONE Group Hospitality actually generated more free cash flow than EBIT over the past year. This kind of solid money conversion makes us as excited as the crowd when the beat drops at a Daft Punk concert.
Our point of view
On the balance sheet, the biggest bright spot for ONE Group Hospitality was the fact that it appears to be able to convert EBIT to free cash flow with confidence. But the other factors we noted above weren’t so encouraging. To be precise, it seems about as good at covering its interest costs with its EBIT as wet socks are at keeping your feet warm. When we consider all the elements mentioned above, it seems to us that ONE Group Hospitality is managing its debt quite well. But beware: we believe debt levels are high enough to warrant continued monitoring. There is no doubt that we learn the most about debt from the balance sheet. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, ONE Group Hospitality has 5 warning signs (and 1 which is significant) we think you should be aware of.
Of course, if you are the type of investor who prefers to buy stocks without going into debt, don’t hesitate to check out our exclusive list of cash-flow-growing stocks today.
This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in the mentioned stocks.
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