Here's Why Downer EDI (ASX:DOW) Can Manage Its Debt Responsibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Downer EDI Limited (ASX:DOW) does carry debt. But the more important question is: how much risk is that debt creating?

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Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

What Is Downer EDI's Debt?

As you can see below, Downer EDI had AU$1.11b of debt at June 2025, down from AU$1.32b a year prior. However, it does have AU$857.2m in cash offsetting this, leading to net debt of about AU$253.6m.

How Strong Is Downer EDI's Balance Sheet?

The latest balance sheet data shows that Downer EDI had liabilities of AU$3.36b due within a year, and liabilities of AU$876.3m falling due after that. Offsetting these obligations, it had cash of AU$857.2m as well as receivables valued at AU$1.80b due within 12 months. So its liabilities total AU$1.58b more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Downer EDI has a market capitalization of AU$4.65b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

See our latest analysis for Downer EDI

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Looking at its net debt to EBITDA of 0.49 and interest cover of 4.6 times, it seems to us that Downer EDI is probably using debt in a pretty reasonable way. So we'd recommend keeping a close eye on the impact financing costs are having on the business. One way Downer EDI could vanquish its debt would be if it stops borrowing more but continues to grow EBIT at around 19%, as it did over the last year. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Downer EDI 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Downer EDI recorded free cash flow worth a fulsome 99% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Our View

The good news is that Downer EDI's demonstrated ability to convert EBIT to free cash flow delights us like a fluffy puppy does a toddler. But truth be told we feel its interest cover does undermine this impression a bit. Taking all this data into account, it seems to us that Downer EDI takes a pretty sensible approach to debt. That means they are taking on a bit more risk, in the hope of boosting shareholder returns. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Downer EDI is showing 2 warning signs in our investment analysis , you should know about...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.