Warren Buffett said: “Volatility is far from synonymous with risk”. It is only natural to consider a company’s balance sheet when looking at its level of risk, as debt is often involved when a business collapses. Like many other companies Dominion Energy, Inc. (NYSE: D) uses debt. But the most important question is: what risk does this debt create?
When is debt dangerous?
Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. In the worst case scenario, a business can go bankrupt if it cannot pay its creditors. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, debt can be an important tool in businesses, especially capital intensive businesses. When we think of a business’s use of debt, we first look at cash flow and debt together.
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What is Dominion Energy’s debt?
As you can see below, Dominion Energy had $ 38.0 billion in debt in March 2021, up from $ 41.2 billion the year before. And he doesn’t have a lot of cash, so his net debt is about the same.
How strong is Dominion Energy’s balance sheet?
The latest balance sheet data shows Dominion Energy had US $ 11.8 billion in liabilities due within one year, and US $ 57.8 billion in liabilities due thereafter. On the other hand, he had $ 477.0 million in cash and $ 2.08 billion in receivables due within a year. It therefore has liabilities totaling US $ 67.1 billion more than its cash and short-term receivables combined.
Given that this deficit is actually greater than the company’s massive market cap of $ 62.2 billion, we think shareholders should really watch Dominion Energy’s debt levels, like a parent watching their child. riding a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely that shareholders would suffer a significant dilution.
In order to measure a company’s debt relative to its profits, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its profit before interest and taxes (EBIT) divided by its interest. debtors (its interest coverage). Thus, we consider debt versus earnings with and without amortization charges.
Dominion Energy has a rather high debt-to-EBITDA ratio of 5.9, which suggests significant leverage. But the good news is that he enjoys a pretty comforting 2.6x interest coverage, which suggests he can meet his obligations responsibly. Another concern for investors could be that Dominion Energy’s EBIT has fallen 14% in the past year. If things continue like this, managing the debt will be about as easy as putting an angry house cat in its travel box. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future earnings, more than anything, that will determine Dominion Energy’s ability to maintain a healthy balance sheet in the future. So, if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.
Finally, a business can only pay off its debts with hard cash, not with book profits. It is therefore worth checking to what extent this EBIT is supported by free cash flow. Over the past three years, Dominion Energy has experienced total negative free cash flow. Debt is much riskier for companies with unreliable free cash flow, so shareholders should hope that past spending will produce free cash flow in the future.
Our point of view
At first glance, Dominion Energy’s conversion of EBIT to free cash flow left us hesitant about the stock, and its net debt to EBITDA was no more attractive than the only restaurant that was empty the night before. busiest of the year. And what’s more, his interest coverage fails to inspire confidence either. It should also be noted that companies in the integrated utility sector like Dominion Energy generally use debt without a problem. After looking at the data points discussed, we believe Dominion Energy has too much debt. This kind of risk is acceptable to some, but it certainly does not float our boat. The balance sheet is clearly the area you need to focus on when analyzing debt. But at the end of the day, every business can contain risks that exist off the balance sheet. To this end, you should inquire about the 2 warning signs we spotted with Dominion Energy (including 1 that should not be overlooked).
If you are interested in investing in companies that can generate profits without the burden of debt, check out this page free list of growing companies that have net cash on the balance sheet.
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