WEC Energy Group (NYSE: WEC) takes certain risks with its use of debt
David Iben put it well when he said, “Volatility is not a risk we care about. What matters to us is to avoid the permanent loss of capital. ‘ 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. We can see that WEC Energy Group, Inc. (NYSE: WEC) uses debt in its business. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. An integral part of capitalism is the process of “creative destruction” where bankrupt companies are ruthlessly liquidated by their bankers. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, constantly diluting shareholders, just to strengthen its balance sheet. Of course, the advantage of debt is that it often represents cheap capital, especially when it replaces dilution in a business with the ability to reinvest at high rates of return. The first step in examining a company’s debt levels is to consider its cash flow and debt together.
See our latest analysis for WEC Energy Group
What is the net debt of WEC Energy Group?
As you can see below, at the end of March 2021, WEC Energy Group had $ 14.6 billion in debt, up from $ 12.7 billion a year ago. Click on the image for more details. Net debt is about the same because it doesn’t have a lot of cash.
How strong is the balance sheet of WEC Energy Group?
The latest balance sheet data shows that WEC Energy Group had liabilities of US $ 3.71 billion due within one year, and liabilities of US $ 22.9 billion due thereafter. In return, he had $ 26.1 million in cash and $ 1.37 billion in receivables due within 12 months. Its liabilities therefore total $ 25.2 billion more than the combination of its cash and short-term receivables.
That’s a mountain of leverage, even compared to its gargantuan market cap of $ 29.0 billion. If its lenders asked it to consolidate the balance sheet, shareholders would likely face severe dilution.
We measure a company’s debt load relative to its earning capacity by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating how easily its earnings before interest and taxes (EBIT) covers its interest costs (interest coverage). The advantage of this approach is that we take into account both the absolute amount of debt (with net debt versus EBITDA) and the actual interest charges associated with this debt (with its coverage rate). interests).
WEC Energy Group has a fairly high debt to EBITDA ratio of 5.3, which suggests significant leverage. But the good news is that he enjoys quite a comforting 3.6 times interest coverage, which suggests he can meet his obligations responsibly. Fortunately, WEC Energy Group has increased its EBIT by 6.6% over the past year, slowly reducing its debt to earnings. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future profits, more than anything, that will determine WEC Energy Group’s ability to maintain a healthy balance sheet in the future. So if you are focused on the future you can check this out free report showing analysts’ earnings forecasts.
Finally, while the IRS may love accounting profits, lenders only accept hard cash. The logical step is therefore to examine the proportion of this EBIT that corresponds to the actual free cash flow. Over the past three years, WEC Energy Group has recorded a total negative free cash flow. Debt is typically more expensive and almost always riskier in the hands of a business with negative free cash flow. Shareholders should hope for improvement.
Our point of view
At first glance, converting WEC Energy Group’s EBIT to free cash flow left us hesitant about the stock, and its net debt to EBITDA was no more attractive than the only empty restaurant at night. busiest of the year. But at least it’s decent enough to increase your EBIT; it’s encouraging. It should also be noted that companies in the integrated utility sector like WEC Energy Group generally use debt without a problem. Looking at the big picture, it seems clear to us that WEC Energy Group’s use of debt creates risks for the business. If all goes well, this should increase returns, but on the other hand, the risk of permanent capital loss is increased by debt. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks lie on the balance sheet – far from it. Note that WEC Energy Group shows 2 warning signs in our investment analysis , and 1 of them is potentially serious …
At the end of the day, it’s often best to focus on businesses with no net debt. You can access our special list of these companies (all with a history of profit growth). It’s free.
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