Is Enero Group (ASX:EGG) Using Too Much Debt?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Enero Group Limited (ASX:EGG) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Enero Group

How Much Debt Does Enero Group Carry?

As you can see below, at the end of June 2022, Enero Group had AU$36.3m of debt, up from none a year ago. Click the image for more detail. But it also has AU$98.7m in cash to offset that, meaning it has AU$62.5m net cash.

A Look At Enero Group's Liabilities

We can see from the most recent balance sheet that Enero Group had liabilities of AU$92.5m falling due within a year, and liabilities of AU$47.2m due beyond that. On the other hand, it had cash of AU$98.7m and AU$64.2m worth of receivables due within a year. So it can boast AU$23.2m more liquid assets than total liabilities.

This short term liquidity is a sign that Enero Group could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Enero Group has more cash than debt is arguably a good indication that it can manage its debt safely.

On top of that, Enero Group grew its EBIT by 39% over the last twelve months, and that growth will make it easier to handle its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Enero Group's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Enero Group has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Enero Group actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While it is always sensible to investigate a company's debt, in this case Enero Group has AU$62.5m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of AU$48m, being 102% of its EBIT. So is Enero Group's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for Enero Group you should be aware of.

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.