Solikamsk magnesium works (MCX:MGNZ) Seems To Use Debt Quite Sensibly

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says '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. As with many other companies Open joint stock company Solikamsk magnesium works (MCX:MGNZ) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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 think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Solikamsk magnesium works

What Is Solikamsk magnesium works's Debt?

As you can see below, Solikamsk magnesium works had ₽287.0m of debt, at June 2021, which is about the same as the year before. You can click the chart for greater detail. However, it does have ₽583.7m in cash offsetting this, leading to net cash of ₽296.7m.

How Strong Is Solikamsk magnesium works' Balance Sheet?

We can see from the most recent balance sheet that Solikamsk magnesium works had liabilities of ₽1.66b falling due within a year, and liabilities of ₽290.0m due beyond that. On the other hand, it had cash of ₽583.7m and ₽1.17b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₽189.9m.

Since publicly traded Solikamsk magnesium works shares are worth a total of ₽3.94b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Solikamsk magnesium works also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact Solikamsk magnesium works's saving grace is its low debt levels, because its EBIT has tanked 75% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Solikamsk magnesium works 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Solikamsk magnesium works may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. In the last three years, Solikamsk magnesium works's free cash flow amounted to 28% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing up

We could understand if investors are concerned about Solikamsk magnesium works's liabilities, but we can be reassured by the fact it has has net cash of ₽296.7m. So we don't have any problem with Solikamsk magnesium works's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Solikamsk magnesium works is showing 2 warning signs in our investment analysis , you should know about...

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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.

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