We Think Mangalam Global Enterprise (NSE:MGEL) Is Taking Some Risk With Its Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Mangalam Global Enterprise

What Is Mangalam Global Enterprise's Debt?

As you can see below, at the end of September 2020, Mangalam Global Enterprise had ₹863.4m of debt, up from ₹539.3m a year ago. Click the image for more detail. However, it also had ₹300.5m in cash, and so its net debt is ₹563.0m.

How Healthy Is Mangalam Global Enterprise's Balance Sheet?

According to the last reported balance sheet, Mangalam Global Enterprise had liabilities of ₹763.2m due within 12 months, and liabilities of ₹303.1m due beyond 12 months. Offsetting these obligations, it had cash of ₹300.5m as well as receivables valued at ₹712.2m due within 12 months. So it has liabilities totalling ₹53.6m more than its cash and near-term receivables, combined.

Given Mangalam Global Enterprise has a market capitalization of ₹1.19b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

While Mangalam Global Enterprise's debt to EBITDA ratio (4.9) suggests that it uses some debt, its interest cover is very weak, at 1.8, suggesting high leverage. It seems clear that the cost of borrowing money is negatively impacting returns for shareholders, of late. On a lighter note, we note that Mangalam Global Enterprise grew its EBIT by 21% 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 it is Mangalam Global Enterprise'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into 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 on the brighter side of life, its EBIT growth rate leaves us feeling more frolicsome. Taking the abovementioned factors together we do think Mangalam Global Enterprise's debt poses some risks to the business. While that debt can boost returns, we think the company has enough leverage now. 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 instance, we've identified 4 warning signs for Mangalam Global Enterprise (1 doesn't sit too well with us) you should be aware of.

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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