Mosenergo (MCX:MSNG) Seems To Use Debt Quite Sensibly

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. Importantly, Public Joint Stock Company Mosenergo (MCX:MSNG) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Mosenergo

What Is Mosenergo's Net Debt?

As you can see below, at the end of September 2020, Mosenergo had ₽22.7b of debt, up from ₽3.88b a year ago. Click the image for more detail. However, its balance sheet shows it holds ₽23.6b in cash, so it actually has ₽919.0m net cash.

How Healthy Is Mosenergo's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Mosenergo had liabilities of ₽14.2b due within 12 months and liabilities of ₽65.5b due beyond that. On the other hand, it had cash of ₽23.6b and ₽49.2b worth of receivables due within a year. So it has liabilities totalling ₽6.84b more than its cash and near-term receivables, combined.

Given Mosenergo has a market capitalization of ₽85.9b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Mosenergo also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact Mosenergo's saving grace is its low debt levels, because its EBIT has tanked 48% 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. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Mosenergo 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. While Mosenergo has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Mosenergo recorded free cash flow worth a fulsome 82% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing up

We could understand if investors are concerned about Mosenergo's liabilities, but we can be reassured by the fact it has has net cash of ₽919.0m. The cherry on top was that in converted 82% of that EBIT to free cash flow, bringing in ₽13b. So we don't have any problem with Mosenergo's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. We've identified 3 warning signs with Mosenergo , and understanding them should be part of your investment process.

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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