Here's Why Enlight Renewable Energy (TLV:ENLT) Has A Meaningful Debt Burden

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that Enlight Renewable Energy Ltd (TLV:ENLT) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Enlight Renewable Energy

What Is Enlight Renewable Energy's Debt?

The image below, which you can click on for greater detail, shows that at March 2021 Enlight Renewable Energy had debt of ₪4.00b, up from ₪2.67b in one year. However, it does have ₪1.29b in cash offsetting this, leading to net debt of about ₪2.70b.

How Strong Is Enlight Renewable Energy's Balance Sheet?

According to the last reported balance sheet, Enlight Renewable Energy had liabilities of ₪360.8m due within 12 months, and liabilities of ₪4.10b due beyond 12 months. On the other hand, it had cash of ₪1.29b and ₪149.2m worth of receivables due within a year. So its liabilities total ₪3.02b more than the combination of its cash and short-term receivables.

Enlight Renewable Energy has a market capitalization of ₪6.07b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

With a net debt to EBITDA ratio of 17.5, it's fair to say Enlight Renewable Energy does have a significant amount of debt. But the good news is that it boasts fairly comforting interest cover of 6.6 times, suggesting it can responsibly service its obligations. If Enlight Renewable Energy can keep growing EBIT at last year's rate of 13% over the last year, then it will find its debt load easier to manage. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Enlight Renewable Energy can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, Enlight Renewable Energy burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

On the face of it, Enlight Renewable Energy's net debt to EBITDA left us tentative about the stock, and its conversion of EBIT to free cash flow was no more enticing than the one empty restaurant on the busiest night of the year. But on the bright side, its EBIT growth rate is a good sign, and makes us more optimistic. Looking at the balance sheet and taking into account all these factors, we do believe that debt is making Enlight Renewable Energy 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. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with Enlight Renewable Energy (at least 1 which can't be ignored) , and understanding them should be part of your investment process.

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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