We Think Mighty Craft (ASX:MCL) Has A Fair Chunk Of Debt

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We can see that Mighty Craft Limited (ASX:MCL) does use debt in its business. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Mighty Craft

What Is Mighty Craft's Net Debt?

The image below, which you can click on for greater detail, shows that at December 2021 Mighty Craft had debt of AU$13.0m, up from AU$6.81m in one year. On the flip side, it has AU$10.7m in cash leading to net debt of about AU$2.31m.

How Healthy Is Mighty Craft's Balance Sheet?

The latest balance sheet data shows that Mighty Craft had liabilities of AU$16.1m due within a year, and liabilities of AU$28.6m falling due after that. Offsetting these obligations, it had cash of AU$10.7m as well as receivables valued at AU$4.48m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by AU$29.5m.

While this might seem like a lot, it is not so bad since Mighty Craft has a market capitalization of AU$86.9m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Mighty Craft 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.

In the last year Mighty Craft wasn't profitable at an EBIT level, but managed to grow its revenue by 177%, to AU$44m. So its pretty obvious shareholders are hoping for more growth!

Caveat Emptor

While we can certainly appreciate Mighty Craft's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Its EBIT loss was a whopping AU$16m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. Another cause for caution is that is bled AU$20m in negative free cash flow over the last twelve months. So in short it's a really risky stock. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 4 warning signs for Mighty Craft (of which 2 shouldn't be ignored!) you should know about.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.