Atresmedia Corporación de Medios de Comunicación (BME:A3M) Seems To Use Debt Quite Sensibly

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Atresmedia Corporación de Medios de Comunicación, S.A. (BME:A3M) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. If things get really bad, the lenders can take control of the business. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. 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 Atresmedia Corporación de Medios de Comunicación

What Is Atresmedia Corporación de Medios de Comunicación's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Atresmedia Corporación de Medios de Comunicación had €272.5m of debt in December 2020, down from €294.3m, one year before. However, it does have €176.1m in cash offsetting this, leading to net debt of about €96.4m.

How Healthy Is Atresmedia Corporación de Medios de Comunicación's Balance Sheet?

According to the last reported balance sheet, Atresmedia Corporación de Medios de Comunicación had liabilities of €495.5m due within 12 months, and liabilities of €357.2m due beyond 12 months. Offsetting this, it had €176.1m in cash and €288.4m in receivables that were due within 12 months. So it has liabilities totalling €388.2m more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since Atresmedia Corporación de Medios de Comunicación has a market capitalization of €823.3m, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (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).

With net debt sitting at just 1.4 times EBITDA, Atresmedia Corporación de Medios de Comunicación is arguably pretty conservatively geared. And this view is supported by the solid interest coverage, with EBIT coming in at 9.4 times the interest expense over the last year. The modesty of its debt load may become crucial for Atresmedia Corporación de Medios de Comunicación if management cannot prevent a repeat of the 66% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Atresmedia Corporación de Medios de Comunicación 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, Atresmedia Corporación de Medios de Comunicación generated free cash flow amounting to a very robust 92% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Our View

Based on what we've seen Atresmedia Corporación de Medios de Comunicación is not finding it easy, given its EBIT growth rate, but the other factors we considered give us cause to be optimistic. In particular, we are dazzled with its conversion of EBIT to free cash flow. Looking at all this data makes us feel a little cautious about Atresmedia Corporación de Medios de Comunicación's debt levels. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. 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 3 warning signs for Atresmedia Corporación de Medios de Comunicación that you should be aware of before investing here.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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