Does Stavropolenergosbyt (MCX:STSB) Have A Healthy Balance Sheet?

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.' 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. As with many other companies Stavropolenergosbyt Public Joint-Stock Company (MCX:STSB) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Stavropolenergosbyt

What Is Stavropolenergosbyt's Debt?

You can click the graphic below for the historical numbers, but it shows that Stavropolenergosbyt had ₽1.10b of debt in December 2020, down from ₽1.47b, one year before. On the flip side, it has ₽181.3m in cash leading to net debt of about ₽919.2m.

How Strong Is Stavropolenergosbyt's Balance Sheet?

According to the last reported balance sheet, Stavropolenergosbyt had liabilities of ₽2.15b due within 12 months, and liabilities of ₽810.1m due beyond 12 months. Offsetting these obligations, it had cash of ₽181.3m as well as receivables valued at ₽1.89b due within 12 months. So it has liabilities totalling ₽886.4m more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the ₽518.9m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Stavropolenergosbyt would likely require a major re-capitalisation if it had to pay its creditors today.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Stavropolenergosbyt's net debt is sitting at a very reasonable 1.7 times its EBITDA, while its EBIT covered its interest expense just 4.3 times last year. While these numbers do not alarm us, it's worth noting that the cost of the company's debt is having a real impact. It is well worth noting that Stavropolenergosbyt's EBIT shot up like bamboo after rain, gaining 42% in the last twelve months. That'll make it easier to manage its debt. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Stavropolenergosbyt 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, Stavropolenergosbyt produced sturdy free cash flow equating to 64% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

Stavropolenergosbyt's level of total liabilities and interest cover definitely weigh on it, in our esteem. But the good news is it seems to be able to grow its EBIT with ease. We should also note that Electric Utilities industry companies like Stavropolenergosbyt commonly do use debt without problems. We think that Stavropolenergosbyt's debt does make it a bit risky, after considering the aforementioned data points together. That's not necessarily a bad thing, since leverage can boost returns on equity, but it is something to be aware of. 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. We've identified 2 warning signs with Stavropolenergosbyt (at least 1 which is significant) , 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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