Is Megaport (ASX:MP1) Using Debt In A Risky Way?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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 Megaport Limited (ASX:MP1) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. If things get really bad, the lenders can take control of the business. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Megaport

How Much Debt Does Megaport Carry?

The image below, which you can click on for greater detail, shows that at December 2021 Megaport had debt of AU$12.7m, up from AU$7.27m in one year. However, it does have AU$104.6m in cash offsetting this, leading to net cash of AU$91.9m.

How Strong Is Megaport's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Megaport had liabilities of AU$39.1m due within 12 months and liabilities of AU$10.3m due beyond that. On the other hand, it had cash of AU$104.6m and AU$12.2m worth of receivables due within a year. So it actually has AU$67.4m more liquid assets than total liabilities.

This short term liquidity is a sign that Megaport could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Megaport boasts net cash, so it's fair to say it does not have a heavy debt load! When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Megaport 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.

In the last year Megaport wasn't profitable at an EBIT level, but managed to grow its revenue by 37%, to AU$93m. Shareholders probably have their fingers crossed that it can grow its way to profits.

So How Risky Is Megaport?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And we do note that Megaport had an earnings before interest and tax (EBIT) loss, over the last year. Indeed, in that time it burnt through AU$44m of cash and made a loss of AU$37m. However, it has net cash of AU$91.9m, so it has a bit of time before it will need more capital. Megaport's revenue growth shone bright over the last year, so it may well be in a position to turn a profit in due course. By investing before those profits, shareholders take on more risk in the hope of bigger rewards. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 1 warning sign with Megaport , and understanding them should be part of your investment process.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.