Millicom International Cellular (NASDAQ:TIGO) Has No Shortage Of Debt

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 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 note that Millicom International Cellular S.A. (NASDAQ:TIGO) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Millicom International Cellular

What Is Millicom International Cellular's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Millicom International Cellular had US$5.94b of debt in December 2020, down from US$6.35b, one year before. However, it also had US$1.04b in cash, and so its net debt is US$4.90b.

A Look At Millicom International Cellular's Liabilities

Zooming in on the latest balance sheet data, we can see that Millicom International Cellular had liabilities of US$2.61b due within 12 months and liabilities of US$7.54b due beyond that. Offsetting these obligations, it had cash of US$1.04b as well as receivables valued at US$684.0m due within 12 months. So it has liabilities totalling US$8.43b more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the US$4.06b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Millicom International Cellular would likely require a major re-capitalisation if it had to pay its creditors today.

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). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

While we wouldn't worry about Millicom International Cellular's net debt to EBITDA ratio of 3.8, we think its super-low interest cover of 0.47 times is a sign of high leverage. In large part that's due to the company's significant depreciation and amortisation charges, which arguably mean its EBITDA is a very generous measure of earnings, and its debt may be more of a burden than it first appears. It seems clear that the cost of borrowing money is negatively impacting returns for shareholders, of late. Worse, Millicom International Cellular's EBIT was down 44% over the last year. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that 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 Millicom International Cellular'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 business needs free cash flow to pay off debt; accounting profits just don't cut it. So we always check how much of that EBIT is translated into free cash flow. Over the last three years, Millicom International Cellular recorded negative free cash flow, in total. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Our View

On the face of it, Millicom International Cellular's EBIT growth rate left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. And even its conversion of EBIT to free cash flow fails to inspire much confidence. Considering everything we've mentioned above, it's fair to say that Millicom International Cellular is carrying heavy debt load. If you play with fire you risk getting burnt, so we'd probably give this stock a wide berth. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Millicom International Cellular 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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