Stock Analysis

Does MTY Food Group (TSE:MTY) Have A Healthy Balance Sheet?

TSX:MTY
Source: Shutterstock

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. We note that MTY Food Group Inc. (TSE:MTY) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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, 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 MTY Food Group

What Is MTY Food Group's Net Debt?

As you can see below, MTY Food Group had CA$441.4m of debt at February 2021, down from CA$561.7m a year prior. However, it also had CA$39.0m in cash, and so its net debt is CA$402.4m.

debt-equity-history-analysis
TSX:MTY Debt to Equity History May 15th 2021

How Healthy Is MTY Food Group's Balance Sheet?

According to the last reported balance sheet, MTY Food Group had liabilities of CA$376.0m due within 12 months, and liabilities of CA$1.02b due beyond 12 months. Offsetting these obligations, it had cash of CA$39.0m as well as receivables valued at CA$157.9m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by CA$1.20b.

This deficit is considerable relative to its market capitalization of CA$1.43b, so it does suggest shareholders should keep an eye on MTY Food Group's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

MTY Food Group's debt is 3.5 times its EBITDA, and its EBIT cover its interest expense 4.8 times over. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Importantly, MTY Food Group's EBIT fell a jaw-dropping 34% in the last twelve months. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine MTY Food Group'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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Happily for any shareholders, MTY Food Group actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

We'd go so far as to say MTY Food Group's EBIT growth rate was disappointing. But on the bright side, its conversion of EBIT to free cash flow is a good sign, and makes us more optimistic. Looking at the balance sheet and taking into account all these factors, we do believe that debt is making MTY Food Group stock a bit risky. Some people like that sort of risk, but we're mindful of the potential pitfalls, so we'd probably prefer it carry less debt. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Be aware that MTY Food Group is showing 3 warning signs in our investment analysis , and 2 of those are potentially serious...

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.

If you're looking for stocks to buy, use the lowest-cost* platform that is rated #1 Overall by Barron’s, Interactive Brokers. Trade stocks, options, futures, forex, bonds and funds on 135 markets, all from a single integrated account. Promoted


New: Manage All Your Stock Portfolios in One Place

We've created the ultimate portfolio companion for stock investors, and it's free.

• Connect an unlimited number of Portfolios and see your total in one currency
• Be alerted to new Warning Signs or Risks via email or mobile
• Track the Fair Value of your stocks

Try a Demo Portfolio for Free

This article by Simply Wall St is general in nature. 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.
*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020


Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

About TSX:MTY

MTY Food Group

Operates and franchises quick-service, fast-casual, and casual dining restaurants in Canada, the United States, and internationally.

Good value average dividend payer.

Community Narratives

Priced for AI perfection - cracks are emerging
Fair Value US$90.15|42.74% overvalued
ChadWisperer
ChadWisperer
Community Contributor
NVDA Market Outlook
Fair Value US$341.12|62.277% undervalued
NateF
NateF
Community Contributor
Karoon Energy (ASX:KAR) - Buy Baby Buy 🚀
Fair Value AU$5.10|70.294% undervalued
StockMan
StockMan
Community Contributor