Is Megacable Holdings S. A. B. de C. V (BMV:MEGACPO) A Risky Investment?

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Megacable Holdings, S. A. B. de C. V. (BMV:MEGACPO) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Megacable Holdings S. A. B. de C. V

What Is Megacable Holdings S. A. B. de C. V's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2022 Megacable Holdings S. A. B. de C. V had Mex$11.0b of debt, an increase on Mex$6.62b, over one year. However, it also had Mex$1.47b in cash, and so its net debt is Mex$9.49b.

How Strong Is Megacable Holdings S. A. B. de C. V's Balance Sheet?

The latest balance sheet data shows that Megacable Holdings S. A. B. de C. V had liabilities of Mex$5.96b due within a year, and liabilities of Mex$15.5b falling due after that. On the other hand, it had cash of Mex$1.47b and Mex$3.16b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by Mex$16.9b.

This deficit isn't so bad because Megacable Holdings S. A. B. de C. V is worth Mex$44.4b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

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).

Megacable Holdings S. A. B. de C. V's net debt is only 0.82 times its EBITDA. And its EBIT covers its interest expense a whopping 13.5 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Fortunately, Megacable Holdings S. A. B. de C. V grew its EBIT by 3.1% in the last year, making that debt load look even more manageable. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Megacable Holdings S. A. B. de C. V'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. In the last three years, Megacable Holdings S. A. B. de C. V's free cash flow amounted to 40% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Our View

When it comes to the balance sheet, the standout positive for Megacable Holdings S. A. B. de C. V was the fact that it seems able to cover its interest expense with its EBIT confidently. However, our other observations weren't so heartening. For example, its conversion of EBIT to free cash flow makes us a little nervous about its debt. When we consider all the elements mentioned above, it seems to us that Megacable Holdings S. A. B. de C. V is managing its debt quite well. But a word of caution: we think debt levels are high enough to justify ongoing monitoring. 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. For example - Megacable Holdings S. A. B. de C. V has 1 warning sign we think you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.