Madison Pacific Properties (TSE:MPC) Has No Shortage Of Debt

Warren Buffett famously said, '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. We note that Madison Pacific Properties Inc. (TSE:MPC) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Madison Pacific Properties

How Much Debt Does Madison Pacific Properties Carry?

The image below, which you can click on for greater detail, shows that at February 2024 Madison Pacific Properties had debt of CA$297.4m, up from CA$283.8m in one year. On the flip side, it has CA$31.4m in cash leading to net debt of about CA$266.0m.

How Strong Is Madison Pacific Properties' Balance Sheet?

The latest balance sheet data shows that Madison Pacific Properties had liabilities of CA$121.7m due within a year, and liabilities of CA$248.4m falling due after that. Offsetting this, it had CA$31.4m in cash and CA$6.40m in receivables that were due within 12 months. So it has liabilities totalling CA$332.2m more than its cash and near-term receivables, combined.

When you consider that this deficiency exceeds the company's CA$288.0m market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Madison Pacific Properties shareholders face the double whammy of a high net debt to EBITDA ratio (11.8), and fairly weak interest coverage, since EBIT is just 0.87 times the interest expense. This means we'd consider it to have a heavy debt load. Worse, Madison Pacific Properties's EBIT was down 45% over the last year. 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 it is Madison Pacific Properties's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. In the last three years, Madison Pacific Properties created free cash flow amounting to 2.2% of its EBIT, an uninspiring performance. That limp level of cash conversion undermines its ability to manage and pay down debt.

Our View

To be frank both Madison Pacific Properties's interest cover and its track record of (not) growing its EBIT make us rather uncomfortable with its debt levels. And furthermore, its conversion of EBIT to free cash flow also fails to instill confidence. Taking into account all the aforementioned factors, it looks like Madison Pacific Properties has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. 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 instance, we've identified 4 warning signs for Madison Pacific Properties that you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.