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David Iben put it well when he said, ‘Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.’ 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. Mangata Holding S.A. (WSE:MGT) makes use of debt. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
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. Part and parcel of capitalism is the process of ‘creative destruction’ where failed businesses are mercilessly liquidated by their bankers. 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. 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. The first step when considering a company’s debt levels is to consider its cash and debt together.
How Much Debt Does Mangata Holding Carry?
You can click the graphic below for the historical numbers, but it shows that as of March 2019 Mangata Holding had zł171.2m of debt, an increase on zł123.8m, over one year. However, it also had zł36.8m in cash, and so its net debt is zł134.4m.
A Look At Mangata Holding’s Liabilities
We can see from the most recent balance sheet that Mangata Holding had liabilities of zł189.8m falling due within a year, and liabilities of zł147.1m due beyond that. Offsetting these obligations, it had cash of zł36.8m as well as receivables valued at zł152.6m due within 12 months. So it has liabilities totalling zł147.5m more than its cash and near-term receivables, combined.
This deficit isn’t so bad because Mangata Holding is worth zł520.8m, and thus could probably raise enough capital to sure 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. Since Mangata Holding does have net debt, we think it is worthwhile for shareholders to keep an eye on the balance sheet, over time.
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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.
Mangata Holding has a low net debt to EBITDA ratio of only 1.42. And its EBIT covers its interest expense a whopping 28.2 times over. So we’re pretty relaxed about its super-conservative use of debt. We note that Mangata Holding grew its EBIT by 23% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Mangata Holding 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.
Finally, a company can only pay off debt with cold hard cash, not accounting profits. 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, Mangata Holding’s free cash flow amounted to 39% of its EBIT, less than we’d expect. That weak cash conversion makes it more difficult to handle indebtedness.
Happily, Mangata Holding’s impressive interest cover implies it has the upper hand on its debt. And that’s just the beginning of the good news since its EBIT growth rate is also very heartening. All these things considered, it appears that Mangata Holding can comfortably handle its current debt levels. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it’s worth keeping an eye on this one. Another positive for shareholders is that it pays dividends. So if you like receiving those dividend payments, check Mangata Holding’s dividend history, without delay!
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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If you spot an error that warrants correction, please contact the editor at email@example.com. 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. Simply Wall St has no position in the stocks mentioned. Thank you for reading.