Is Multiplan Empreendimentos Imobiliários (BVMF:MULT3) Using Too Much Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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. Importantly, Multiplan Empreendimentos Imobiliários S.A. (BVMF:MULT3) does carry debt. But the real question is whether this debt is making the company risky.

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Multiplan Empreendimentos Imobiliários

What Is Multiplan Empreendimentos Imobiliários's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Multiplan Empreendimentos Imobiliários had R$3.60b of debt, an increase on R$2.63b, over one year. Net debt is about the same, since the it doesn't have much cash.

How Healthy Is Multiplan Empreendimentos Imobiliários' Balance Sheet?

We can see from the most recent balance sheet that Multiplan Empreendimentos Imobiliários had liabilities of R$1.46b falling due within a year, and liabilities of R$3.58b due beyond that. Offsetting these obligations, it had cash of R$55.3m as well as receivables valued at R$524.6m due within 12 months. So it has liabilities totalling R$4.46b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Multiplan Empreendimentos Imobiliários has a market capitalization of R$13.3b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

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.

With a debt to EBITDA ratio of 2.2, Multiplan Empreendimentos Imobiliários uses debt artfully but responsibly. And the alluring interest cover (EBIT of 8.2 times interest expense) certainly does not do anything to dispel this impression. We saw Multiplan Empreendimentos Imobiliários grow its EBIT by 8.8% in the last twelve months. Whilst that hardly knocks our socks off it is a positive when it comes to debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Multiplan Empreendimentos Imobiliários'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Multiplan Empreendimentos Imobiliários recorded free cash flow worth a fulsome 95% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Our View

Happily, Multiplan Empreendimentos Imobiliários's impressive conversion of EBIT to free cash flow implies it has the upper hand on its debt. And we also thought its interest cover was a positive. All these things considered, it appears that Multiplan Empreendimentos Imobiliários can comfortably handle its current debt levels. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 2 warning signs for Multiplan Empreendimentos Imobiliários that you should be aware of before investing here.

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.