Grupo Bimbo. de (BMV:BIMBOA) Takes On Some Risk With Its Use Of 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 Grupo Bimbo, S.A.B. de C.V. (BMV:BIMBOA) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Grupo Bimbo. de

What Is Grupo Bimbo. de's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2023 Grupo Bimbo. de had Mex$107.3b of debt, an increase on Mex$99.8b, over one year. However, because it has a cash reserve of Mex$6.25b, its net debt is less, at about Mex$101.0b.

How Healthy Is Grupo Bimbo. de's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Grupo Bimbo. de had liabilities of Mex$97.9b due within 12 months and liabilities of Mex$135.5b due beyond that. Offsetting these obligations, it had cash of Mex$6.25b as well as receivables valued at Mex$25.6b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by Mex$201.5b.

This deficit is considerable relative to its very significant market capitalization of Mex$330.5b, so it does suggest shareholders should keep an eye on Grupo Bimbo. de's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

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). 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).

Grupo Bimbo. de's net debt is sitting at a very reasonable 2.0 times its EBITDA, while its EBIT covered its interest expense just 4.2 times last year. While these numbers do not alarm us, it's worth noting that the cost of the company's debt is having a real impact. Sadly, Grupo Bimbo. de's EBIT actually dropped 7.2% in the last year. If earnings continue on that decline then managing that debt will be difficult like delivering hot soup on a unicycle. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Grupo Bimbo. de can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Looking at the most recent three years, Grupo Bimbo. de recorded free cash flow of 39% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

On this analysis Grupo Bimbo. de's EBIT growth rate and level of total liabilities both make us a little nervous. But at least its net debt to EBITDA is not so bad. Once we consider all the factors above, together, it seems to us that Grupo Bimbo. de's debt is making it a bit risky. Some people like that sort of risk, but we're mindful of the potential pitfalls, so we'd probably prefer it carry less debt. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 1 warning sign for Grupo Bimbo. de 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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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.