Polenergia (WSE:PEP) seems to be using debt quite wisely

Howard Marks said it well when he said that, rather than worrying about stock price volatility, “the possibility of permanent loss is the risk I worry about…and that every practical investor that I know is worried”. So it seems smart money knows that debt – which is usually involved in bankruptcies – is a very important factor when you’re assessing a company’s risk. Like many other companies Polenergia SA (WSE:PEP) uses debt. But should shareholders worry about its use of debt?

Why is debt risky?

Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, it exists at their mercy. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. Although not too common, we often see companies in debt permanently diluting their shareholders because lenders force them to raise capital at a ridiculous price. By replacing dilution, however, debt can be a great tool for companies that need capital to invest in growth at high rates of return. The first step when considering a company’s debt levels is to consider its cash and debt together.

See our latest analysis for Polenergia

What is Polenergia’s debt?

You can click on the graph below for historical figures, but it shows that in September 2021, Polenergia had 1.30 billion zł in debt, an increase of 894.0 million zł, year on year. However, his balance sheet shows that he holds 1.94 billion zł in cash, so he actually has 642.4 million zł of net cash.

WSE: PEP Debt to Equity History February 17, 2022

How strong is Polenergia’s balance sheet?

Zooming in on the latest balance sheet data, we can see that Polenergia had liabilities of zł 1.85 billion due within 12 months and liabilities of zł 1.60 billion due beyond. On the other hand, it had liquid assets of 1.94 billion zł and 502.9 million zł of receivables due within the year. It therefore has liabilities totaling zł 1.01 billion more than its cash and short-term receivables, combined.

While that might sound like a lot, it’s not that bad since Polenergia has a market capitalization of zł3.01 billion, so it could probably strengthen its balance sheet by raising capital if needed. However, it is always worth taking a close look at your ability to repay debt. Despite its significant liabilities, Polenergia has a net cash position, so it is fair to say that it is not very indebted!

Also positive, Polenergia increased its EBIT by 29% last year, which should facilitate debt repayment in the future. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future earnings, more than anything, that will determine Polenergia’s ability to maintain a healthy balance sheet in the future. So if you are focused on the future, you can check out this free report showing analyst earnings forecast.

But our last consideration is also important, because a company cannot pay off its debts with paper profits; he needs cash. Polenergia may have net cash on the balance sheet, but it is always interesting to see the extent to which the company converts its earnings before interest and taxes (EBIT) into free cash flow, as this will influence both its need and its ability to manage debt. Considering the past three years, Polenergia has actually had a cash outflow, overall. Debt is generally more expensive and almost always riskier in the hands of a company with negative free cash flow. Shareholders should hope for an improvement.

Abstract

Although Polenergia has more liabilities than liquid assets, it also has a net cash position of 642.4 million zł. And we liked the look of EBIT growth of 29% YoY last year. We are therefore not concerned about the use of Polenergia’s debt. When analyzing debt levels, the balance sheet is the obvious starting point. However, not all investment risks reside on the balance sheet, far from it. For example, we have identified 3 warning signs for Polenergia (2 are concerning) that you should be aware of.

In the end, it’s often best to focus on companies that aren’t in debt. You can access our special list of these companies (all with a track record of earnings growth). It’s free.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.

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