Is Ipal (SNSE:IPAL) A Risky Investment?

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.' 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. We can see that Ipal S.A. (SNSE:IPAL) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth 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 Ipal

What Is Ipal's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Ipal had CL$19.1b of debt, an increase on CL$11.7b, over one year. However, because it has a cash reserve of CL$9.35b, its net debt is less, at about CL$9.72b.

How Healthy Is Ipal's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Ipal had liabilities of CL$8.78b due within 12 months and liabilities of CL$19.2b due beyond that. Offsetting this, it had CL$9.35b in cash and CL$7.12b in receivables that were due within 12 months. So it has liabilities totalling CL$11.5b more than its cash and near-term receivables, combined.

This deficit is considerable relative to its market capitalization of CL$13.3b, so it does suggest shareholders should keep an eye on Ipal's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Ipal will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Ipal had a loss before interest and tax, and actually shrunk its revenue by 28%, to CL$35b. To be frank that doesn't bode well.

Caveat Emptor

Not only did Ipal's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at CL$951m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled CL$171m in negative free cash flow over the last twelve months. So suffice it to say we do consider the stock to be risky. 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. To that end, you should learn about the 4 warning signs we've spotted with Ipal (including 2 which are a bit unpleasant) .

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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