Fintel Energija a.d (BELEX:FINT) Takes On Some Risk With Its Use Of Debt

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. As with many other companies Fintel Energija a.d. (BELEX:FINT) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. 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, 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.

See our latest analysis for Fintel Energija a.d

What Is Fintel Energija a.d's Debt?

The image below, which you can click on for greater detail, shows that Fintel Energija a.d had debt of дин12.3b at the end of December 2020, a reduction from дин12.9b over a year. On the flip side, it has дин309.1m in cash leading to net debt of about дин12.0b.

How Healthy Is Fintel Energija a.d's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Fintel Energija a.d had liabilities of дин2.13b due within 12 months and liabilities of дин11.0b due beyond that. Offsetting this, it had дин309.1m in cash and дин83.4m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by дин12.8b.

This deficit is considerable relative to its market capitalization of дин16.7b, so it does suggest shareholders should keep an eye on Fintel Energija a.d's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

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.

Weak interest cover of 1.1 times and a disturbingly high net debt to EBITDA ratio of 9.3 hit our confidence in Fintel Energija a.d like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. The good news is that Fintel Energija a.d grew its EBIT a smooth 64% over the last twelve months. Like the milk of human kindness that sort of growth increases resilience, making the company more capable of managing debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Fintel Energija a.d's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we always check how much of that EBIT is translated into free cash flow. During the last three years, Fintel Energija a.d burned a lot of cash. 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

To be frank both Fintel Energija a.d's interest cover and its track record of converting EBIT to free cash flow make us rather uncomfortable with its debt levels. But on the bright side, its EBIT growth rate is a good sign, and makes us more optimistic. Overall, we think it's fair to say that Fintel Energija a.d has enough debt that there are some real risks around the balance sheet. If all goes well, that should boost returns, but on the flip side, the risk of permanent capital loss is elevated by the debt. 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. These risks can be hard to spot. Every company has them, and we've spotted 2 warning signs for Fintel Energija a.d 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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