Arnoldo Mondadori Editore (BIT:MN) Seems To Use Debt Quite Sensibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies Arnoldo Mondadori Editore S.p.A. (BIT:MN) makes use of debt. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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, 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 step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Arnoldo Mondadori Editore

What Is Arnoldo Mondadori Editore's Net Debt?

The image below, which you can click on for greater detail, shows that Arnoldo Mondadori Editore had debt of €128.1m at the end of March 2021, a reduction from €169.7m over a year. However, it does have €79.6m in cash offsetting this, leading to net debt of about €48.6m.

A Look At Arnoldo Mondadori Editore's Liabilities

The latest balance sheet data shows that Arnoldo Mondadori Editore had liabilities of €412.3m due within a year, and liabilities of €244.0m falling due after that. Offsetting these obligations, it had cash of €79.6m as well as receivables valued at €252.4m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by €324.3m.

This deficit is considerable relative to its market capitalization of €432.6m, so it does suggest shareholders should keep an eye on Arnoldo Mondadori Editore's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

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). 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).

Arnoldo Mondadori Editore's net debt is only 0.80 times its EBITDA. And its EBIT covers its interest expense a whopping 11.5 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. On the other hand, Arnoldo Mondadori Editore's EBIT dived 18%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Arnoldo Mondadori Editore's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

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. Over the last three years, Arnoldo Mondadori Editore recorded free cash flow worth a fulsome 92% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Our View

Both Arnoldo Mondadori Editore's ability to to convert EBIT to free cash flow and its interest cover gave us comfort that it can handle its debt. But truth be told its EBIT growth rate had us nibbling our nails. Looking at all this data makes us feel a little cautious about Arnoldo Mondadori Editore's debt levels. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 3 warning signs for Arnoldo Mondadori Editore that you should be aware of before investing here.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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