Atlantica Sustainable Infrastructure (NASDAQ:AY) Takes On Some Risk With Its Use Of Debt

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Atlantica Sustainable Infrastructure plc (NASDAQ:AY) makes use of debt. But is this debt a concern to shareholders?

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Atlantica Sustainable Infrastructure

What Is Atlantica Sustainable Infrastructure's Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2021 Atlantica Sustainable Infrastructure had US$6.45b of debt, an increase on US$5.94b, over one year. However, because it has a cash reserve of US$1.24b, its net debt is less, at about US$5.22b.

How Healthy Is Atlantica Sustainable Infrastructure's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Atlantica Sustainable Infrastructure had liabilities of US$907.9m due within 12 months and liabilities of US$7.21b due beyond that. Offsetting these obligations, it had cash of US$1.24b as well as receivables valued at US$265.5m due within 12 months. So its liabilities total US$6.62b more than the combination of its cash and short-term receivables.

The deficiency here weighs heavily on the US$4.06b 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, Atlantica Sustainable Infrastructure would likely require a major re-capitalisation if it had to pay its creditors today.

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 1.3 times and a disturbingly high net debt to EBITDA ratio of 6.7 hit our confidence in Atlantica Sustainable Infrastructure like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. More concerning, Atlantica Sustainable Infrastructure saw its EBIT drop by 3.3% in the last twelve months. If it keeps going like that paying off its debt will be like running on a treadmill -- a lot of effort for not much advancement. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Atlantica Sustainable Infrastructure's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Atlantica Sustainable Infrastructure actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

On the face of it, Atlantica Sustainable Infrastructure's interest cover left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Overall, it seems to us that Atlantica Sustainable Infrastructure's balance sheet is really quite a risk to the business. 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. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for Atlantica Sustainable Infrastructure (of which 2 don't sit too well with us!) 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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This article by Simply Wall St is general in nature. 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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