These 4 Measures Indicate That EZTEC Empreendimentos e Participações (BVMF:EZTC3) Is Using Debt Extensively

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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, EZTEC Empreendimentos e Participações S.A. (BVMF:EZTC3) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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 step when considering a company's debt levels is to consider its cash and debt together.

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How Much Debt Does EZTEC Empreendimentos e Participações Carry?

As you can see below, at the end of September 2022, EZTEC Empreendimentos e Participações had R$475.2m of debt, up from R$19.2m a year ago. Click the image for more detail. But it also has R$886.3m in cash to offset that, meaning it has R$411.1m net cash.

A Look At EZTEC Empreendimentos e Participações' Liabilities

We can see from the most recent balance sheet that EZTEC Empreendimentos e Participações had liabilities of R$434.9m falling due within a year, and liabilities of R$534.2m due beyond that. Offsetting these obligations, it had cash of R$886.3m as well as receivables valued at R$334.2m due within 12 months. So it can boast R$251.4m more liquid assets than total liabilities.

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

The modesty of its debt load may become crucial for EZTEC Empreendimentos e Participações if management cannot prevent a repeat of the 40% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine EZTEC Empreendimentos e Participações's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While EZTEC Empreendimentos e Participações 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. During the last three years, EZTEC Empreendimentos e Participações burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that EZTEC Empreendimentos e Participações has net cash of R$411.1m, as well as more liquid assets than liabilities. So although we see some areas for improvement, we're not too worried about EZTEC Empreendimentos e Participações's balance sheet. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for EZTEC Empreendimentos e Participações you should know about.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.