Here's Why Malkowski-Martech Spólka Akcyjna (WSE:MMA) Has A Meaningful Debt Burden

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Malkowski-Martech Spólka Akcyjna (WSE:MMA) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Malkowski-Martech Spólka Akcyjna

What Is Malkowski-Martech Spólka Akcyjna's Debt?

The image below, which you can click on for greater detail, shows that at September 2020 Malkowski-Martech Spólka Akcyjna had debt of zł12.0m, up from zł11.0m in one year. However, because it has a cash reserve of zł266.6k, its net debt is less, at about zł11.7m.

How Strong Is Malkowski-Martech Spólka Akcyjna's Balance Sheet?

We can see from the most recent balance sheet that Malkowski-Martech Spólka Akcyjna had liabilities of zł16.2m falling due within a year, and liabilities of zł5.62m due beyond that. On the other hand, it had cash of zł266.6k and zł12.5m worth of receivables due within a year. So its liabilities total zł9.05m more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of zł12.9m, so it does suggest shareholders should keep an eye on Malkowski-Martech Spólka Akcyjna's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Malkowski-Martech Spólka Akcyjna has a debt to EBITDA ratio of 3.3 and its EBIT covered its interest expense 4.7 times. Taken together this implies that, while we wouldn't want to see debt levels rise, we think it can handle its current leverage. Importantly, Malkowski-Martech Spólka Akcyjna's EBIT fell a jaw-dropping 24% in the last twelve months. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Malkowski-Martech Spólka Akcyjna will need earnings to service that debt. 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 it's worth checking how much of that EBIT is backed by free cash flow. Looking at the most recent two years, Malkowski-Martech Spólka Akcyjna recorded free cash flow of 24% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

We'd go so far as to say Malkowski-Martech Spólka Akcyjna's EBIT growth rate was disappointing. Having said that, its ability to cover its interest expense with its EBIT isn't such a worry. We're quite clear that we consider Malkowski-Martech Spólka Akcyjna to be really rather risky, as a result of its balance sheet health. So we're almost as wary of this stock as a hungry kitten is about falling into its owner's fish pond: once bitten, twice shy, as they say. 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. Be aware that Malkowski-Martech Spólka Akcyjna is showing 3 warning signs in our investment analysis , and 2 of those can't be ignored...

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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