Is Betterware de MéxicoP.I. de (NASDAQ:BWMX) A Risky Investment?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 Betterware de México, S.A.P.I. de C.V. (NASDAQ:BWMX) makes use of debt. 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. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Betterware de MéxicoP.I. de

How Much Debt Does Betterware de MéxicoP.I. de Carry?

You can click the graphic below for the historical numbers, but it shows that Betterware de MéxicoP.I. de had Mex$5.47b of debt in June 2023, down from Mex$6.65b, one year before. On the flip side, it has Mex$728.9m in cash leading to net debt of about Mex$4.74b.

How Healthy Is Betterware de MéxicoP.I. de's Balance Sheet?

We can see from the most recent balance sheet that Betterware de MéxicoP.I. de had liabilities of Mex$4.11b falling due within a year, and liabilities of Mex$6.02b due beyond that. Offsetting this, it had Mex$728.9m in cash and Mex$1.38b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by Mex$8.02b.

This deficit is considerable relative to its market capitalization of Mex$9.83b, so it does suggest shareholders should keep an eye on Betterware de MéxicoP.I. de's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Betterware de MéxicoP.I. de's net debt is sitting at a very reasonable 2.0 times its EBITDA, while its EBIT covered its interest expense just 2.8 times last year. While that doesn't worry us too much, it does suggest the interest payments are somewhat of a burden. We saw Betterware de MéxicoP.I. de grow its EBIT by 3.9% in the last twelve months. That's far from incredible but it is a good thing, when it comes to paying off debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Betterware de MéxicoP.I. de'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.

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. During the last three years, Betterware de MéxicoP.I. de produced sturdy free cash flow equating to 57% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

While Betterware de MéxicoP.I. de's level of total liabilities makes us cautious about it, its track record of covering its interest expense with its EBIT is no better. But its not so bad at converting EBIT to free cash flow. When we consider all the factors discussed, it seems to us that Betterware de MéxicoP.I. de 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. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example Betterware de MéxicoP.I. de has 3 warning signs (and 1 which is a bit unpleasant) we think you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.