Is Meliá Hotels International (BME:MEL) Using Debt Sensibly?

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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that Meliá Hotels International, S.A. (BME:MEL) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

Check out our latest analysis for Meliá Hotels International

How Much Debt Does Meliá Hotels International Carry?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 Meliá Hotels International had €1.36b of debt, an increase on €925.0m, over one year. However, it also had €171.6m in cash, and so its net debt is €1.19b.

How Healthy Is Meliá Hotels International's Balance Sheet?

We can see from the most recent balance sheet that Meliá Hotels International had liabilities of €759.9m falling due within a year, and liabilities of €2.81b due beyond that. Offsetting these obligations, it had cash of €171.6m as well as receivables valued at €169.8m due within 12 months. So it has liabilities totalling €3.23b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the €1.54b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Meliá Hotels International would likely require a major re-capitalisation if it had to pay its creditors today. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Meliá Hotels International 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.

In the last year Meliá Hotels International had a loss before interest and tax, and actually shrunk its revenue by 70%, to €528m. That makes us nervous, to say the least.

Caveat Emptor

While Meliá Hotels International's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable €557m at the EBIT level. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it had negative free cash flow of €1.3m over the last twelve months. That means it's on the risky side of things. 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, we've discovered 2 warning signs for Meliá Hotels International (1 is potentially serious!) that you should be aware of before investing here.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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