Stock Analysis

Is EL. D. Mouzakis (ATH:MOYZK) Using Too Much Debt?

ATSE:MOYZK
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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.' 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, EL. D. Mouzakis S.A. (ATH:MOYZK) does carry debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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.

View our latest analysis for EL. D. Mouzakis

How Much Debt Does EL. D. Mouzakis Carry?

The chart below, which you can click on for greater detail, shows that EL. D. Mouzakis had €20.5m in debt in December 2020; about the same as the year before. On the flip side, it has €1.47m in cash leading to net debt of about €19.0m.

debt-equity-history-analysis
ATSE:MOYZK Debt to Equity History May 24th 2021

How Healthy Is EL. D. Mouzakis' Balance Sheet?

According to the last reported balance sheet, EL. D. Mouzakis had liabilities of €1.43m due within 12 months, and liabilities of €22.5m due beyond 12 months. Offsetting this, it had €1.47m in cash and €2.04m in receivables that were due within 12 months. So it has liabilities totalling €20.4m more than its cash and near-term receivables, combined.

When you consider that this deficiency exceeds the company's €18.6m market capitalization, you might well be inclined to review the balance sheet intently. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution.

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

As it happens EL. D. Mouzakis has a fairly concerning net debt to EBITDA ratio of 33.7 but very strong interest coverage of 11.6. This means that unless the company has access to very cheap debt, that interest expense will likely grow in the future. Shareholders should be aware that EL. D. Mouzakis's EBIT was down 30% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. When analysing debt levels, the balance sheet is the obvious place to start. But it is EL. D. Mouzakis's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, EL. D. Mouzakis generated free cash flow amounting to a very robust 87% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Our View

On the face of it, EL. D. Mouzakis's net debt to EBITDA left us tentative about the stock, and its EBIT growth rate was no more enticing than the one empty restaurant on the busiest night of the year. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Looking at the balance sheet and taking into account all these factors, we do believe that debt is making EL. D. Mouzakis stock 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. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example EL. D. Mouzakis has 4 warning signs (and 1 which is concerning) we think you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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