Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Alliant Energy Corporation (NASDAQ:LNT) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

How Much Debt Does Alliant Energy Carry?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Alliant Energy had US$9.67b of debt, an increase on US$9.05b, over one year. And it doesn't have much cash, so its net debt is about the same.

A Look At Alliant Energy's Liabilities

According to the last reported balance sheet, Alliant Energy had liabilities of US$1.98b due within 12 months, and liabilities of US$12.4b due beyond 12 months. On the other hand, it had cash of US$32.0m and US$426.0m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$14.0b.

When you consider that this deficiency exceeds the company's huge US$13.2b market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Weak interest cover of 2.3 times and a disturbingly high net debt to EBITDA ratio of 6.0 hit our confidence in Alliant Energy like a one-two punch to the gut. The debt burden here is substantial. Fortunately, Alliant Energy grew its EBIT by 4.8% in the last year, slowly shrinking its debt relative to earnings. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Alliant Energy can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

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. Over the last three years, Alliant Energy saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

On the face of it, Alliant Energy's net debt to EBITDA left us tentative about the stock, and its conversion of EBIT to free cash flow was no more enticing than the one empty restaurant on the busiest night of the year. But at least its EBIT growth rate is not so bad. It's also worth noting that Alliant Energy is in the Electric Utilities industry, which is often considered to be quite defensive. We're quite clear that we consider Alliant Energy to be really rather risky, as a result of its balance sheet health. 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. To that end, you should learn about the 2 warning signs we've spotted with Alliant Energy (including 1 which can't be ignored) .

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team@simplywallst.com