Is S.P.E.E.H. Hidroelectrica (BVB:H2O) Using Too Much Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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 S.P.E.E.H. Hidroelectrica S.A. (BVB:H2O) makes use of debt. But the more important question is: how much risk is that debt creating?

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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for S.P.E.E.H. Hidroelectrica

What Is S.P.E.E.H. Hidroelectrica's Debt?

The image below, which you can click on for greater detail, shows that S.P.E.E.H. Hidroelectrica had debt of RON347.3m at the end of June 2024, a reduction from RON439.7m over a year. However, it does have RON2.66b in cash offsetting this, leading to net cash of RON2.32b.

A Look At S.P.E.E.H. Hidroelectrica's Liabilities

We can see from the most recent balance sheet that S.P.E.E.H. Hidroelectrica had liabilities of RON1.85b falling due within a year, and liabilities of RON2.99b due beyond that. On the other hand, it had cash of RON2.66b and RON2.80b worth of receivables due within a year. So it actually has RON625.1m more liquid assets than total liabilities.

This state of affairs indicates that S.P.E.E.H. Hidroelectrica's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the RON54.9b company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that S.P.E.E.H. Hidroelectrica has more cash than debt is arguably a good indication that it can manage its debt safely.

But the bad news is that S.P.E.E.H. Hidroelectrica has seen its EBIT plunge 11% in the last twelve months. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if S.P.E.E.H. Hidroelectrica 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. While S.P.E.E.H. Hidroelectrica has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, S.P.E.E.H. Hidroelectrica generated free cash flow amounting to a very robust 84% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While it is always sensible to investigate a company's debt, in this case S.P.E.E.H. Hidroelectrica has RON2.32b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 84% of that EBIT to free cash flow, bringing in RON6.3b. So is S.P.E.E.H. Hidroelectrica's debt a risk? It doesn't seem so to us. 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, we've discovered 2 warning signs for S.P.E.E.H. Hidroelectrica that you should be aware of before investing here.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.