These 4 Measures Indicate That Mycronic (STO:MYCR) Is Using Debt Reasonably Well

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.' 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 can see that Mycronic AB (publ) (STO:MYCR) does use debt in its business. 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. 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, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Mycronic

How Much Debt Does Mycronic Carry?

The image below, which you can click on for greater detail, shows that Mycronic had debt of kr66.0m at the end of March 2022, a reduction from kr261.0m over a year. However, its balance sheet shows it holds kr907.0m in cash, so it actually has kr841.0m net cash.

How Strong Is Mycronic's Balance Sheet?

The latest balance sheet data shows that Mycronic had liabilities of kr1.70b due within a year, and liabilities of kr551.0m falling due after that. On the other hand, it had cash of kr907.0m and kr1.16b worth of receivables due within a year. So it has liabilities totalling kr183.0m more than its cash and near-term receivables, combined.

This state of affairs indicates that Mycronic's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the kr16.6b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Mycronic also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact Mycronic's saving grace is its low debt levels, because its EBIT has tanked 45% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Mycronic's ability to maintain a healthy balance sheet going forward. 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. Mycronic 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. During the last three years, Mycronic produced sturdy free cash flow equating to 76% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Mycronic has kr841.0m in net cash. The cherry on top was that in converted 76% of that EBIT to free cash flow, bringing in kr549m. So we are not troubled with Mycronic's debt use. 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 Mycronic 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.

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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.