Does Interregional Distribution Grid Company of Center and Volga Region (MCX:MRKP) Have A Healthy Balance Sheet?

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.' 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, Interregional Distribution Grid Company of Center and Volga Region, Public Joint Stock Company (MCX:MRKP) does carry debt. But is this debt a concern to shareholders?

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 usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Interregional Distribution Grid Company of Center and Volga Region

How Much Debt Does Interregional Distribution Grid Company of Center and Volga Region Carry?

As you can see below, Interregional Distribution Grid Company of Center and Volga Region had ₽26.3b of debt, at December 2020, which is about the same as the year before. You can click the chart for greater detail. However, it also had ₽1.76b in cash, and so its net debt is ₽24.5b.

A Look At Interregional Distribution Grid Company of Center and Volga Region's Liabilities

The latest balance sheet data shows that Interregional Distribution Grid Company of Center and Volga Region had liabilities of ₽29.8b due within a year, and liabilities of ₽27.0b falling due after that. Offsetting these obligations, it had cash of ₽1.76b as well as receivables valued at ₽15.6b due within 12 months. So it has liabilities totalling ₽39.5b more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of ₽33.0b, we think shareholders really should watch Interregional Distribution Grid Company of Center and Volga Region's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

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). 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).

While Interregional Distribution Grid Company of Center and Volga Region's low debt to EBITDA ratio of 1.2 suggests only modest use of debt, the fact that EBIT only covered the interest expense by 6.6 times last year does give us pause. So we'd recommend keeping a close eye on the impact financing costs are having on the business. Also good is that Interregional Distribution Grid Company of Center and Volga Region grew its EBIT at 15% over the last year, further increasing its ability to manage debt. 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 Interregional Distribution Grid Company of Center and Volga Region can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

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, Interregional Distribution Grid Company of Center and Volga Region created free cash flow amounting to 16% of its EBIT, an uninspiring performance. That limp level of cash conversion undermines its ability to manage and pay down debt.

Our View

Both Interregional Distribution Grid Company of Center and Volga Region's level of total liabilities and its conversion of EBIT to free cash flow were discouraging. But its not so bad at growing its EBIT. It's also worth noting that Interregional Distribution Grid Company of Center and Volga Region is in the Electric Utilities industry, which is often considered to be quite defensive. When we consider all the factors discussed, it seems to us that Interregional Distribution Grid Company of Center and Volga Region is taking some risks with its use of debt. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Interregional Distribution Grid Company of Center and Volga Region is showing 2 warning signs in our investment analysis , you should know about...

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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