MAV Beauty Brands (TSE:MAV) Has No Shortage Of Debt

By
Simply Wall St
Published
January 25, 2022
TSX:MAV
Source: Shutterstock

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.' 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, MAV Beauty Brands Inc. (TSE:MAV) does carry debt. But the more important question is: how much risk is that debt creating?

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. 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, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for MAV Beauty Brands

What Is MAV Beauty Brands's Debt?

You can click the graphic below for the historical numbers, but it shows that MAV Beauty Brands had US$133.4m of debt in September 2021, down from US$144.1m, one year before. However, it also had US$11.9m in cash, and so its net debt is US$121.5m.

debt-equity-history-analysis
TSX:MAV Debt to Equity History January 25th 2022

How Healthy Is MAV Beauty Brands' Balance Sheet?

The latest balance sheet data shows that MAV Beauty Brands had liabilities of US$19.0m due within a year, and liabilities of US$139.7m falling due after that. On the other hand, it had cash of US$11.9m and US$17.4m worth of receivables due within a year. So its liabilities total US$129.4m more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the US$30.7m company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, MAV Beauty Brands 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). 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).

MAV Beauty Brands shareholders face the double whammy of a high net debt to EBITDA ratio (7.7), and fairly weak interest coverage, since EBIT is just 1.9 times the interest expense. The debt burden here is substantial. Worse, MAV Beauty Brands's EBIT was down 58% over the last year. If earnings continue to follow that trajectory, paying off that debt load will be harder than convincing us to run a marathon in the rain. 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 MAV Beauty Brands'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 the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Looking at the most recent three years, MAV Beauty Brands recorded free cash flow of 45% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

On the face of it, MAV Beauty Brands's EBIT growth rate left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. But at least its conversion of EBIT to free cash flow is not so bad. After considering the datapoints discussed, we think MAV Beauty Brands has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. 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. Case in point: We've spotted 3 warning signs for MAV Beauty Brands you should be aware of.

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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