EcoRodovias Infraestrutura e Logística (BVMF:ECOR3) Has A Somewhat Strained Balance Sheet

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies EcoRodovias Infraestrutura e Logística S.A. (BVMF:ECOR3) makes use of debt. But should shareholders be worried about its use of debt?

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. 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 step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for EcoRodovias Infraestrutura e Logística

What Is EcoRodovias Infraestrutura e Logística's Debt?

As you can see below, at the end of June 2021, EcoRodovias Infraestrutura e Logística had R$9.25b of debt, up from R$8.31b a year ago. Click the image for more detail. However, because it has a cash reserve of R$3.24b, its net debt is less, at about R$6.01b.

A Look At EcoRodovias Infraestrutura e Logística's Liabilities

We can see from the most recent balance sheet that EcoRodovias Infraestrutura e Logística had liabilities of R$4.26b falling due within a year, and liabilities of R$8.03b due beyond that. Offsetting these obligations, it had cash of R$3.24b as well as receivables valued at R$961.4m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by R$8.09b.

Given this deficit is actually higher than the company's market capitalization of R$6.78b, we think shareholders really should watch EcoRodovias Infraestrutura e Logística's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

EcoRodovias Infraestrutura e Logística has a debt to EBITDA ratio of 3.0 and its EBIT covered its interest expense 3.5 times. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. Fortunately, EcoRodovias Infraestrutura e Logística grew its EBIT by 8.9% in the last year, slowly shrinking its debt relative to earnings. 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 EcoRodovias Infraestrutura e Logística'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Looking at the most recent three years, EcoRodovias Infraestrutura e Logística recorded free cash flow of 39% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

Mulling over EcoRodovias Infraestrutura e Logística's attempt at staying on top of its total liabilities, we're certainly not enthusiastic. But at least it's pretty decent at growing its EBIT; that's encouraging. It's also worth noting that EcoRodovias Infraestrutura e Logística is in the Infrastructure industry, which is often considered to be quite defensive. Looking at the balance sheet and taking into account all these factors, we do believe that debt is making EcoRodovias Infraestrutura e Logística stock a bit risky. That's not necessarily a bad thing, but we'd generally feel more comfortable with less leverage. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 3 warning signs for EcoRodovias Infraestrutura e Logística (1 is significant!) that you should be aware of before investing here.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.
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