Hawaiian Electric Industries (NYSE:HE) Seems To Be Using A Lot 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 Hawaiian Electric Industries, Inc. (NYSE:HE) 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, 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 examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Hawaiian Electric Industries

What Is Hawaiian Electric Industries's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2022 Hawaiian Electric Industries had US$3.25b of debt, an increase on US$2.46b, over one year. On the flip side, it has US$199.9m in cash leading to net debt of about US$3.05b.

How Healthy Is Hawaiian Electric Industries' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Hawaiian Electric Industries had liabilities of US$6.12b due within 12 months and liabilities of US$7.92b due beyond that. Offsetting these obligations, it had cash of US$199.9m as well as receivables valued at US$6.42b due within 12 months. So its liabilities total US$7.43b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the US$4.10b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Hawaiian Electric Industries would probably need a major re-capitalization if its creditors were to demand repayment.

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). 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).

Hawaiian Electric Industries has a debt to EBITDA ratio of 4.5 and its EBIT covered its interest expense 3.7 times. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. Given the debt load, it's hardly ideal that Hawaiian Electric Industries's EBIT was pretty flat over the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Hawaiian Electric Industries 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. In the last three years, Hawaiian Electric Industries created free cash flow amounting to 20% of its EBIT, an uninspiring performance. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Our View

We'd go so far as to say Hawaiian Electric Industries's level of total liabilities was disappointing. Having said that, its ability to grow its EBIT isn't such a worry. It's also worth noting that Hawaiian Electric Industries is in the Electric Utilities industry, which is often considered to be quite defensive. Overall, it seems to us that Hawaiian Electric Industries'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. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Be aware that Hawaiian Electric Industries is showing 3 warning signs in our investment analysis , and 1 of those is potentially serious...

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.