Is Mphasis (NSE:MPHASIS) Using Too Much Debt?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Mphasis Limited (NSE:MPHASIS) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Mphasis

What Is Mphasis's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2024 Mphasis had debt of ₹9.80b, up from ₹6.60b in one year. However, it does have ₹29.8b in cash offsetting this, leading to net cash of ₹20.0b.

How Healthy Is Mphasis' Balance Sheet?

The latest balance sheet data shows that Mphasis had liabilities of ₹38.2b due within a year, and liabilities of ₹10.9b falling due after that. On the other hand, it had cash of ₹29.8b and ₹25.7b worth of receivables due within a year. So it can boast ₹6.39b more liquid assets than total liabilities.

Having regard to Mphasis' size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the ₹554.4b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, Mphasis boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Mphasis saw its EBIT drop by 7.6% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. 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 Mphasis can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Mphasis has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Mphasis recorded free cash flow worth a fulsome 86% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While it is always sensible to investigate a company's debt, in this case Mphasis has ₹20.0b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 86% of that EBIT to free cash flow, bringing in ₹20b. So we don't think Mphasis's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Mphasis that you should be aware of.

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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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.