Is MEP Infrastructure Developers (NSE:MEP) Using Too Much Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that MEP Infrastructure Developers Limited (NSE:MEP) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. 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 MEP Infrastructure Developers

What Is MEP Infrastructure Developers's Debt?

The image below, which you can click on for greater detail, shows that at March 2021 MEP Infrastructure Developers had debt of ₹26.1b, up from ₹24.2b in one year. On the flip side, it has ₹12.3b in cash leading to net debt of about ₹13.8b.

How Healthy Is MEP Infrastructure Developers' Balance Sheet?

We can see from the most recent balance sheet that MEP Infrastructure Developers had liabilities of ₹30.0b falling due within a year, and liabilities of ₹16.5b due beyond that. On the other hand, it had cash of ₹12.3b and ₹5.48b worth of receivables due within a year. So it has liabilities totalling ₹28.7b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the ₹4.46b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. After all, MEP Infrastructure Developers would likely require a major re-capitalisation if it had to pay its creditors today.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While MEP Infrastructure Developers has a quite reasonable net debt to EBITDA multiple of 2.2, its interest cover seems weak, at 1.1. This does suggest the company is paying fairly high interest rates. Either way there's no doubt the stock is using meaningful leverage. Pleasingly, MEP Infrastructure Developers is growing its EBIT faster than former Australian PM Bob Hawke downs a yard glass, boasting a 734% gain in the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But it is MEP Infrastructure Developers's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, MEP Infrastructure Developers actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Our View

We feel some trepidation about MEP Infrastructure Developers's difficulty level of total liabilities, but we've got positives to focus on, too. To wit both its conversion of EBIT to free cash flow and EBIT growth rate were encouraging signs. We should also note that Infrastructure industry companies like MEP Infrastructure Developers commonly do use debt without problems. We think that MEP Infrastructure Developers's debt does make it a bit risky, after considering the aforementioned data points together. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. 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. To that end, you should learn about the 4 warning signs we've spotted with MEP Infrastructure Developers (including 2 which make us uncomfortable) .

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. 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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