Is Megaport (ASX:MP1) Using Too Much Debt?

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Megaport Limited (ASX:MP1) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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 frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Megaport

How Much Debt Does Megaport Carry?

You can click the graphic below for the historical numbers, but it shows that Megaport had US$8.20m of debt in December 2022, down from US$9.27m, one year before. However, it does have US$39.2m in cash offsetting this, leading to net cash of US$31.0m.

How Healthy Is Megaport's Balance Sheet?

The latest balance sheet data shows that Megaport had liabilities of US$36.9m due within a year, and liabilities of US$16.9m falling due after that. On the other hand, it had cash of US$39.2m and US$13.5m worth of receivables due within a year. So its liabilities total US$1.12m more than the combination of its cash and short-term receivables.

Having regard to Megaport's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the US$665.9m company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Megaport also has more cash than debt, so we're pretty confident it can manage its debt safely. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Megaport's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Over 12 months, Megaport reported revenue of US$85m, which is a gain of 24%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.

So How Risky Is Megaport?

We have no doubt that loss making companies are, in general, riskier than profitable ones. 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 US$24m of cash and made a loss of US$28m. However, it has net cash of US$31.0m, 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. For instance, we've identified 1 warning sign for Megaport that you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.