Molibdenos y Metales (SNSE:MOLYMET) Takes On Some Risk With Its Use Of Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We can see that Molibdenos y Metales S.A. (SNSE:MOLYMET) does use debt in its business. But is this debt a concern to shareholders?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Molibdenos y Metales

What Is Molibdenos y Metales's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Molibdenos y Metales had US$443.6m of debt in September 2024, down from US$755.6m, one year before. However, because it has a cash reserve of US$188.4m, its net debt is less, at about US$255.2m.

How Strong Is Molibdenos y Metales' Balance Sheet?

The latest balance sheet data shows that Molibdenos y Metales had liabilities of US$310.2m due within a year, and liabilities of US$528.8m falling due after that. Offsetting this, it had US$188.4m in cash and US$222.5m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by US$428.1m.

This is a mountain of leverage relative to its market capitalization of US$505.2m. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Molibdenos y Metales's debt is 2.6 times its EBITDA, and its EBIT cover its interest expense 2.8 times over. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. Worse, Molibdenos y Metales's EBIT was down 52% 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. When analysing debt levels, the balance sheet is the obvious place to start. But it is Molibdenos y Metales'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 we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, Molibdenos y Metales produced sturdy free cash flow equating to 78% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

We'd go so far as to say Molibdenos y Metales'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. Once we consider all the factors above, together, it seems to us that Molibdenos y Metales's debt is making it 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. For example, we've discovered 3 warning signs for Molibdenos y Metales (1 is a bit concerning!) 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.