MAHLE Metal Leve (BVMF:LEVE3) Has A Pretty Healthy Balance Sheet

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We note that MAHLE Metal Leve S.A. (BVMF:LEVE3) does have debt on its balance sheet. 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. If things get really bad, the lenders can take control of the business. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for MAHLE Metal Leve

What Is MAHLE Metal Leve's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 MAHLE Metal Leve had R$620.9m of debt, an increase on R$395.5m, over one year. However, it also had R$546.7m in cash, and so its net debt is R$74.2m.

How Strong Is MAHLE Metal Leve's Balance Sheet?

According to the last reported balance sheet, MAHLE Metal Leve had liabilities of R$953.8m due within 12 months, and liabilities of R$438.3m due beyond 12 months. On the other hand, it had cash of R$546.7m and R$594.9m worth of receivables due within a year. So its liabilities total R$250.5m more than the combination of its cash and short-term receivables.

Of course, MAHLE Metal Leve has a market capitalization of R$2.33b, so these liabilities are probably manageable. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

MAHLE Metal Leve has a low net debt to EBITDA ratio of only 0.26. And its EBIT covers its interest expense a whopping 13.7 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. In fact MAHLE Metal Leve's saving grace is its low debt levels, because its EBIT has tanked 31% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if MAHLE Metal Leve 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, MAHLE Metal Leve produced sturdy free cash flow equating to 68% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

MAHLE Metal Leve's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. But the stark truth is that we are concerned by its EBIT growth rate. Looking at all the aforementioned factors together, it strikes us that MAHLE Metal Leve can handle its debt fairly comfortably. On the plus side, this leverage can boost shareholder returns, but the potential downside is more risk of loss, so it's worth monitoring the balance sheet. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 4 warning signs for MAHLE Metal Leve that you should be aware of.

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. 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.
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