Is Saratovenergo (MCX:SARE) Using Too Much Debt?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, Public Joint Stock Company Saratovenergo (MCX:SARE) does carry debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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.

Check out our latest analysis for Saratovenergo

How Much Debt Does Saratovenergo Carry?

The image below, which you can click on for greater detail, shows that Saratovenergo had debt of ₽1.08b at the end of June 2021, a reduction from ₽1.24b over a year. And it doesn't have much cash, so its net debt is about the same.

How Strong Is Saratovenergo's Balance Sheet?

The latest balance sheet data shows that Saratovenergo had liabilities of ₽2.88b due within a year, and liabilities of ₽162.9m falling due after that. Offsetting these obligations, it had cash of ₽1.13m as well as receivables valued at ₽2.38b due within 12 months. So it has liabilities totalling ₽664.6m more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of ₽802.7m. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Weak interest cover of 0.20 times and a disturbingly high net debt to EBITDA ratio of 14.6 hit our confidence in Saratovenergo like a one-two punch to the gut. The debt burden here is substantial. One redeeming factor for Saratovenergo is that it turned last year's EBIT loss into a gain of ₽8.0m, over the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Saratovenergo will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Considering the last year, Saratovenergo actually recorded a cash outflow, overall. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Our View

To be frank both Saratovenergo's net debt to EBITDA and its track record of covering its interest expense with its EBIT make us rather uncomfortable with its debt levels. But at least its EBIT growth rate is not so bad. It's also worth noting that Saratovenergo is in the Electric Utilities industry, which is often considered to be quite defensive. We're quite clear that we consider Saratovenergo to be really rather risky, as a result of its balance sheet health. So we're almost as wary of this stock as a hungry kitten is about falling into its owner's fish pond: once bitten, twice shy, as they say. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that Saratovenergo is showing 4 warning signs in our investment analysis , and 2 of those don't sit too well with us...

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.

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.

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