These 4 Measures Indicate That M. Dias Branco Indústria e Comércio de Alimentos (BVMF:MDIA3) Is Using Debt Reasonably Well

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 note that M. Dias Branco S.A. Indústria e Comércio de Alimentos (BVMF:MDIA3) does have debt on its balance sheet. But is this debt a concern to shareholders?

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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt 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 Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2023 M. Dias Branco Indústria e Comércio de Alimentos had R$2.54b of debt, an increase on R$1.88b, over one year. However, because it has a cash reserve of R$1.23b, its net debt is less, at about R$1.31b.

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

We can see from the most recent balance sheet that M. Dias Branco Indústria e Comércio de Alimentos had liabilities of R$2.50b falling due within a year, and liabilities of R$2.20b due beyond that. Offsetting this, it had R$1.23b in cash and R$2.05b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by R$1.43b.

Given M. Dias Branco Indústria e Comércio de Alimentos has a market capitalization of R$11.3b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time.

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.

M. Dias Branco Indústria e Comércio de Alimentos has a low debt to EBITDA ratio of only 1.4. But the really cool thing is that it actually managed to receive more interest than it paid, over the last year. So there's no doubt this company can take on debt while staying cool as a cucumber. Fortunately, M. Dias Branco Indústria e Comércio de Alimentos grew its EBIT by 3.1% in the last year, making that debt load look even more manageable. 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're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the most recent three years, M. Dias Branco Indústria e Comércio de Alimentos recorded free cash flow worth 62% of its EBIT, which is around normal, given free cash flow excludes interest and tax. 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 its conversion of EBIT to free cash flow is good too. Taking all this data into account, it seems to us that M. Dias Branco Indústria e Comércio de Alimentos takes a pretty sensible approach to debt. While that brings some risk, it can also enhance returns for shareholders. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. We've identified 1 warning sign with M. Dias Branco Indústria e Comércio de Alimentos , and understanding them should be part of your investment process.

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.