Legendary fund manager Li Lu (whom Charlie Munger once backed) once said, “The greatest risk in investing is not price volatility, but whether you will suffer a permanent loss of capital. So it may be obvious that you need to take debt into account when thinking about the risk of a given stock, because too much debt can sink a business. We notice that The Israel Land Development Company Ltd. (TLV:ILDC) has debt on its balance sheet. But the more important question is: what risk does this debt create?
Why is debt risky?
Debt and other liabilities become risky for a business when it cannot easily meet those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still costly) situation is when a company has to dilute shareholders at a cheap share price just to keep debt under control. That said, the most common situation is when a company manages its debt reasonably well – and to its own benefit. When we think about a company’s use of debt, we first look at cash and debt together.
See our latest analysis for Israel Land Development
What is Israel Land Development’s debt?
The image below, which you can click on for more details, shows that as of September 2021, Israel Land Development had a debt of ₪3.78 billion, up from ₪3.28 billion in one year. However, he also had ₪319.5 million in cash, so his net debt is ₪3.46 billion.
How strong is Israel Land Development’s balance sheet?
The latest balance sheet data shows that Israel Land Development had liabilities of ₪829.1 million due within one year, and liabilities of ₪3.91 billion falling due thereafter. On the other hand, it had a cash position of ₪319.5 million and ₪159.6 million in receivables within one year. Thus, its liabilities outweigh the sum of its cash and (short-term) receivables by ₪4.26 billion.
The deficiency here weighs heavily on society itself, like a child struggling under the weight of a huge backpack full of books, his sports gear and a trumpet. So we definitely think shareholders need to watch this one closely. After all, Israel Land Development would likely need a major recapitalization if it were to pay its creditors today.
We measure a company’s leverage against its earning power by looking at its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and calculating how easily its earnings before interest and taxes (EBIT ) covers its interest charge (interest coverage). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.
A low interest coverage of 0.72 times and an extremely high net debt to EBITDA ratio of 32.8 shook our confidence in Israel Land Development like a punch in the gut. This means that we would consider him to be heavily indebted. On a slightly more positive note, Israel Land Development increased its EBIT by 14% compared to last year, further increasing its ability to manage debt. The balance sheet is clearly the area to focus on when analyzing debt. But it is the profits of Israel Land Development that will influence the balance sheet in the future. So, when considering debt, it is definitely worth looking at the earnings trend. Click here for an interactive preview.
But our last consideration is also important, because a company cannot pay debt with paper profits; he needs cash. We must therefore clearly examine whether this EBIT generates a corresponding free cash flow. Over the past three years, Israel Land Development has burned a lot of money. While this may be the result of spending for growth, it makes debt much riskier.
Our point of view
At first glance, Israel Land Development’s conversion of EBIT to free cash flow left us hesitant about the stock, and its level of total liabilities was no more appealing than the single empty restaurant on the busiest night in the year. But on the bright side, its EBIT growth rate is a good sign and makes us more optimistic. Considering all the above factors, it seems that Israel Land Development is too indebted. That kind of risk is acceptable to some, but it certainly doesn’t float our boat. The balance sheet is clearly the area to focus on when analyzing debt. However, not all investment risks reside on the balance sheet, far from it. Example: we have identified 4 warning signs for land development in Israel you need to be aware of, and 1 of them should not be ignored.
If, after all that, you’re more interested in a fast-growing company with a strong balance sheet, check out our list of cash-neutral growth stocks right away.
Feedback on this article? Concerned about content? Get in touch with us directly. You can also email the editorial team (at) Simplywallst.com.
This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.
Comments are closed.