Terna (BIT:TRN) 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.' 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 Terna S.p.A. (BIT:TRN) makes use of debt. But should shareholders be worried about its use of debt?

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When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. 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, 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.

How Much Debt Does Terna Carry?

The image below, which you can click on for greater detail, shows that at March 2025 Terna had debt of €14.2b, up from €13.0b in one year. However, it also had €3.10b in cash, and so its net debt is €11.1b.

How Strong Is Terna's Balance Sheet?

According to the last reported balance sheet, Terna had liabilities of €5.66b due within 12 months, and liabilities of €12.1b due beyond 12 months. Offsetting this, it had €3.10b in cash and €1.31b in receivables that were due within 12 months. So it has liabilities totalling €13.3b more than its cash and near-term receivables, combined.

This deficit is considerable relative to its very significant market capitalization of €18.0b, so it does suggest shareholders should keep an eye on Terna's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

Check out our latest analysis for Terna

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Terna's net debt is 4.4 times its EBITDA, which is a significant but still reasonable amount of leverage. However, its interest coverage of 11.3 is very high, suggesting that the interest expense on the debt is currently quite low. If Terna can keep growing EBIT at last year's rate of 16% over the last year, then it will find its debt load easier to manage. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Terna can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the last three years, Terna saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

Terna's conversion of EBIT to free cash flow was a real negative on this analysis, although the other factors we considered cast it in a significantly better light. For example its interest cover was refreshing. We should also note that Electric Utilities industry companies like Terna commonly do use debt without problems. Taking the abovementioned factors together we do think Terna's debt poses some risks to the business. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. 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. For example, we've discovered 2 warning signs for Terna (1 can't be ignored!) 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.