These 4 Measures Indicate That Telefônica Brasil (BVMF:VIVT3) Is Using Debt Reasonably Well

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Telefônica Brasil S.A. (BVMF:VIVT3) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

Check out our latest analysis for Telefônica Brasil

How Much Debt Does Telefônica Brasil Carry?

As you can see below, Telefônica Brasil had R$1.44b of debt at September 2021, down from R$3.56b a year prior. But on the other hand it also has R$8.73b in cash, leading to a R$7.29b net cash position.

How Strong Is Telefônica Brasil's Balance Sheet?

According to the last reported balance sheet, Telefônica Brasil had liabilities of R$22.3b due within 12 months, and liabilities of R$21.6b due beyond 12 months. Offsetting these obligations, it had cash of R$8.73b as well as receivables valued at R$12.7b due within 12 months. So it has liabilities totalling R$22.4b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Telefônica Brasil has a huge market capitalization of R$83.7b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. Despite its noteworthy liabilities, Telefônica Brasil boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Telefônica Brasil saw its EBIT drop by 7.2% in the last twelve months. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. 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 Telefônica Brasil'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 Telefônica Brasil 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, Telefônica Brasil 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 Telefônica Brasil does have more liabilities than liquid assets, it also has net cash of R$7.29b. And it impressed us with free cash flow of R$9.2b, being 181% of its EBIT. So we don't have any problem with Telefônica Brasil's use of debt. 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. To that end, you should learn about the 2 warning signs we've spotted with Telefônica Brasil (including 1 which doesn't sit too well with us) .

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.