Here's Why MRO-TEK Realty (NSE:MRO-TEK) Can Manage Its Debt Responsibly

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 note that MRO-TEK Realty Limited (NSE:MRO-TEK) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. 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 MRO-TEK Realty

How Much Debt Does MRO-TEK Realty Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2021 MRO-TEK Realty had ₹684.5m of debt, an increase on ₹555.4m, over one year. However, it also had ₹46.6m in cash, and so its net debt is ₹637.9m.

A Look At MRO-TEK Realty's Liabilities

We can see from the most recent balance sheet that MRO-TEK Realty had liabilities of ₹682.9m falling due within a year, and liabilities of ₹341.6m due beyond that. Offsetting this, it had ₹46.6m in cash and ₹87.7m in receivables that were due within 12 months. So its liabilities total ₹890.2m more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of ₹1.00b, so it does suggest shareholders should keep an eye on MRO-TEK Realty's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe 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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

MRO-TEK Realty has a low net debt to EBITDA ratio of only 0.72. And its EBIT easily covers its interest expense, being 15.0 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. It was also good to see that despite losing money on the EBIT line last year, MRO-TEK Realty turned things around in the last 12 months, delivering and EBIT of ₹864m. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since MRO-TEK Realty 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Over the last year, MRO-TEK Realty recorded free cash flow worth a fulsome 97% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Our View

MRO-TEK Realty's interest cover was a real positive on this analysis, as was its conversion of EBIT to free cash flow. On the other hand, its level of total liabilities makes us a little less comfortable about its debt. Considering this range of data points, we think MRO-TEK Realty is in a good position to manage its debt levels. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. 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. We've identified 3 warning signs with MRO-TEK Realty , and understanding them should be part of your investment process.

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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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.