Is M. Dias Branco Indústria e Comércio de Alimentos (BVMF:MDIA3) Using Too Much 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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that M. Dias Branco S.A. Indústria e Comércio de Alimentos (BVMF:MDIA3) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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. 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.

See our latest analysis for M. Dias Branco Indústria e Comércio de Alimentos

What Is M. Dias Branco Indústria e Comércio de Alimentos's Debt?

The image below, which you can click on for greater detail, shows that at September 2022 M. Dias Branco Indústria e Comércio de Alimentos had debt of R$2.32b, up from R$1.86b in one year. However, it also had R$439.3m in cash, and so its net debt is R$1.88b.

How Healthy Is M. Dias Branco Indústria e Comércio de Alimentos' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that M. Dias Branco Indústria e Comércio de Alimentos had liabilities of R$2.31b due within 12 months and liabilities of R$2.28b due beyond that. On the other hand, it had cash of R$439.3m and R$1.89b worth of receivables due within a year. So its liabilities total R$2.26b more than the combination of its cash and short-term receivables.

Of course, M. Dias Branco Indústria e Comércio de Alimentos has a market capitalization of R$11.8b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

M. Dias Branco Indústria e Comércio de Alimentos's net debt to EBITDA ratio of about 2.0 suggests only moderate use of debt. And its strong interest cover of 70.5 times, makes us even more comfortable. Importantly, M. Dias Branco Indústria e Comércio de Alimentos grew its EBIT by 51% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine M. Dias Branco Indústria e Comércio de Alimentos's ability to maintain a healthy balance sheet going forward. 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 company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. In the last three years, M. Dias Branco Indústria e Comércio de Alimentos's free cash flow amounted to 37% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Our View

M. Dias Branco Indústria e Comércio de Alimentos'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, on a more sombre note, we are a little concerned by its conversion of EBIT to free cash flow. When we consider the range of factors above, it looks like M. Dias Branco Indústria e Comércio de Alimentos is pretty sensible with its use of debt. That means they are taking on a bit more risk, in the hope of boosting shareholder returns. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of M. Dias Branco Indústria e Comércio de Alimentos's earnings per share history for free.

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.