Is CIBT Education Group (TSE:MBA) 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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies CIBT Education Group Inc. (TSE:MBA) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for CIBT Education Group

What Is CIBT Education Group's Debt?

The image below, which you can click on for greater detail, shows that at February 2021 CIBT Education Group had debt of CA$237.2m, up from CA$191.8m in one year. However, it also had CA$14.4m in cash, and so its net debt is CA$222.8m.

How Strong Is CIBT Education Group's Balance Sheet?

According to the last reported balance sheet, CIBT Education Group had liabilities of CA$224.7m due within 12 months, and liabilities of CA$81.7m due beyond 12 months. On the other hand, it had cash of CA$14.4m and CA$24.6m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$267.3m.

This deficit casts a shadow over the CA$55.9m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, CIBT Education Group would likely require a major re-capitalisation if it had to pay its creditors today.

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.

Weak interest cover of 0.31 times and a disturbingly high net debt to EBITDA ratio of 51.3 hit our confidence in CIBT Education Group like a one-two punch to the gut. The debt burden here is substantial. Even worse, CIBT Education Group saw its EBIT tank 59% over the last 12 months. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if CIBT Education Group 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 company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. In the last three years, CIBT Education Group's free cash flow amounted to 20% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

To be frank both CIBT Education Group's EBIT growth rate and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. And even its net debt to EBITDA fails to inspire much confidence. Considering all the factors previously mentioned, we think that CIBT Education Group really is carrying too much debt. To us, that makes the stock rather risky, like walking through a dog park with your eyes closed. But some investors may feel differently. 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 example CIBT Education Group has 4 warning signs (and 1 which is a bit unpleasant) we think you should know about.

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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