Equital (TLV:EQTL) Has A Somewhat Strained Balance Sheet

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. Importantly, Equital Ltd. (TLV:EQTL) does carry debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Equital

What Is Equital's Debt?

As you can see below, Equital had ₪8.12b of debt at December 2023, down from ₪8.61b a year prior. On the flip side, it has ₪2.30b in cash leading to net debt of about ₪5.82b.

How Healthy Is Equital's Balance Sheet?

According to the last reported balance sheet, Equital had liabilities of ₪2.19b due within 12 months, and liabilities of ₪9.80b due beyond 12 months. On the other hand, it had cash of ₪2.30b and ₪713.2m worth of receivables due within a year. So its liabilities total ₪8.97b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the ₪3.92b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Equital would likely require a major re-capitalisation if it had to pay its creditors today.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Equital has a debt to EBITDA ratio of 3.4 and its EBIT covered its interest expense 6.5 times. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Notably Equital's EBIT was pretty flat over the last year. We would prefer to see some earnings growth, because that always helps diminish debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is Equital's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. During the last three years, Equital generated free cash flow amounting to a very robust 83% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Our View

Mulling over Equital's attempt at staying on top of its total liabilities, we're certainly not enthusiastic. But on the bright side, its conversion of EBIT to free cash flow is a good sign, and makes us more optimistic. Once we consider all the factors above, together, it seems to us that Equital's debt is making it 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. But ultimately, every company can contain risks that exist outside of the balance sheet. For example Equital has 2 warning signs (and 1 which is a bit concerning) we think you should know about.

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.