M. Dias Branco Indústria e Comércio de Alimentos (BVMF:MDIA3) Seems To Use Debt Quite Sensibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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. We note that M. Dias Branco S.A. Indústria e Comércio de Alimentos (BVMF:MDIA3) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

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

How Much Debt Does M. Dias Branco Indústria e Comércio de Alimentos Carry?

The image below, which you can click on for greater detail, shows that at December 2022 M. Dias Branco Indústria e Comércio de Alimentos had debt of R$2.33b, up from R$1.78b in one year. On the flip side, it has R$664.6m in cash leading to net debt of about R$1.67b.

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$2.47b due within 12 months and liabilities of R$2.26b due beyond that. Offsetting these obligations, it had cash of R$664.6m as well as receivables valued at R$1.95b due within 12 months. So its liabilities total R$2.11b more than the combination of its cash and short-term receivables.

M. Dias Branco Indústria e Comércio de Alimentos has a market capitalization of R$9.61b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

We'd say that M. Dias Branco Indústria e Comércio de Alimentos's moderate net debt to EBITDA ratio ( being 2.0), indicates prudence when it comes to debt. And its strong interest cover of 1k times, makes us even more comfortable. Importantly, M. Dias Branco Indústria e Comércio de Alimentos grew its EBIT by 35% over the last twelve months, and that growth will make it easier to handle its debt. 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 M. Dias Branco Indústria e Comércio de Alimentos 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, M. Dias Branco Indústria e Comércio de Alimentos produced sturdy free cash flow equating to 63% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

The good news is that M. Dias Branco Indústria e Comércio de Alimentos's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. And the good news does not stop there, as its EBIT growth rate also supports that impression! Looking at the bigger picture, we think M. Dias Branco Indústria e Comércio de Alimentos's use of debt seems quite reasonable and we're not concerned about it. While debt does bring risk, when used wisely it can also bring a higher return on equity. 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 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.