Mangalam Global Enterprise (NSE:MGEL) Has A Somewhat Strained Balance Sheet

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 note that Mangalam Global Enterprise Limited (NSE:MGEL) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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. 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Mangalam Global Enterprise

What Is Mangalam Global Enterprise's Net Debt?

As you can see below, Mangalam Global Enterprise had ₹2.01b of debt at March 2024, down from ₹2.38b a year prior. On the flip side, it has ₹141.0m in cash leading to net debt of about ₹1.87b.

How Healthy Is Mangalam Global Enterprise's Balance Sheet?

The latest balance sheet data shows that Mangalam Global Enterprise had liabilities of ₹2.41b due within a year, and liabilities of ₹399.1m falling due after that. Offsetting these obligations, it had cash of ₹141.0m as well as receivables valued at ₹1.84b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹825.5m.

While this might seem like a lot, it is not so bad since Mangalam Global Enterprise has a market capitalization of ₹3.80b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without 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). 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).

Weak interest cover of 1.3 times and a disturbingly high net debt to EBITDA ratio of 5.4 hit our confidence in Mangalam Global Enterprise like a one-two punch to the gut. The debt burden here is substantial. On the other hand, Mangalam Global Enterprise grew its EBIT by 27% in the last year. If sustained, this growth should make that debt evaporate like a scarce drinking water during an unnaturally hot summer. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Mangalam Global Enterprise will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

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, Mangalam Global Enterprise burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

While Mangalam Global Enterprise's interest cover makes us cautious about it, its track record of converting EBIT to free cash flow is no better. But at least its EBIT growth rate is a gleaming silver lining to those clouds. When we consider all the factors discussed, it seems to us that Mangalam Global Enterprise is taking some risks with its use of debt. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. To that end, you should learn about the 4 warning signs we've spotted with Mangalam Global Enterprise (including 1 which is significant) .

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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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.

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