Is Arise (STO:ARISE) using too much debt?

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Howard Marks said it well when he said that, rather than worrying about stock price volatility, “the possibility of permanent loss is the risk I worry about…and that every practical investor that I know is worried”. It’s natural to consider a company’s balance sheet when looking at its riskiness, as debt is often involved when a company fails. We can see that Arise AB (pub) (STO:ARISE) uses debt in its business. But does this debt worry shareholders?

When is debt dangerous?

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. In the worst case, a company can go bankrupt if it cannot pay its creditors. Although not too common, we often see companies in debt permanently diluting their shareholders because lenders force them to raise capital at a ridiculous price. By replacing dilution, however, debt can be a great tool for companies that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business has is to look at its cash flow and debt together.

See our latest review for Arise

What is Arise’s net debt?

You can click on the graph below for historical figures, but it shows that Arise had 387.0 million kr in debt in March 2022, compared to 566.0 million kr a year before. On the other hand, he has 107.0 million kr in cash, resulting in a net debt of around 280.0 million kr.

OM:ARISE Debt to Equity History July 19, 2022

How strong is Arise’s balance sheet?

We can see from the most recent balance sheet that Arise had liabilities of 233.0 million kr due within one year, and liabilities of 479.0 million kr due beyond. In compensation for these obligations, it had liquid assets of 107.0 million kr as well as receivables valued at 120.0 million kr and payable within 12 months. Thus, its liabilities total kr 485.0 million more than the combination of its cash and short-term receivables.

Arise has a market capitalization of 2.26 billion kr, so it could very likely raise funds to improve its balance sheet, should the need arise. But we definitely want to keep our eyes peeled for indications that its debt is too risky.

In order to assess a company’s debt relative to its earnings, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its earnings before interest and taxes (EBIT) divided by its expenses. interest (its interest coverage). Thus, we consider debt to earnings with and without amortization and depreciation expense.

We would say that Arise’s moderate net debt to EBITDA ratio (1.6), indicates caution in leverage. And its towering EBIT of 11.0 times its interest expense means that the debt burden is as light as a peacock feather. Although Arise recorded a loss in EBIT last year, it was also good to see that it generated 121 million kr in EBIT in the last twelve months. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future earnings, more than anything, that will determine Arise’s ability to maintain a healthy balance sheet in the future. So if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.

Finally, a business needs free cash flow to pay off its debts; book profits are not enough. It is therefore important to check how much of its earnings before interest and taxes (EBIT) converts into actual free cash flow. Over the past year, Arise has experienced substantial negative free cash flow, overall. While this may be the result of spending for growth, it makes debt much riskier.

Our point of view

Arise’s struggle to convert EBIT to free cash flow made us doubt the strength of its balance sheet, but the other data points we considered were relatively rewarding. For example, his coverage of interest was refreshing. We think Arise’s debt makes it a bit risky, after looking at the aforementioned data points together. Not all risk is bad, as it can increase stock price returns if it pays off, but this leverage risk is worth keeping in mind. The balance sheet is clearly the area to focus on when analyzing debt. But at the end of the day, every business can contain risks that exist outside of the balance sheet. For example, we found 1 warning sign for Arise which you should be aware of before investing here.

In the end, it’s often best to focus on companies that aren’t in debt. You can access our special list of these companies (all with a track record of earnings growth). It’s free.

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.

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