Magnit (MCX: MGNT) has a somewhat strained record

David Iben put it well when he said, “Volatility is not a risk we care about. What matters to us is to avoid the permanent loss of capital. ‘ So it seems like smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess the level of risk of a business. We note that Magnit public joint stock company (MCX: MGNT) has debt on its balance sheet. But does this debt worry shareholders?

What risk does debt entail?

Generally speaking, debt only becomes a real problem when a company cannot repay it easily, either by raising capital or with its own cash flow. Ultimately, if the company can’t meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, constantly diluting shareholders, just to strengthen its balance sheet. Of course, many companies use debt to finance their growth without negative consequences. When we look at debt levels, we first look at cash and debt levels, together.

Check out our latest review for Magnit

How much debt does Magnit have?

As you can see below, at the end of June 2021, Magnit had 628.3 billion yen in debt, up from 561.9 billion yen a year ago. Click on the image for more details. However, because it has a cash reserve of 129.7 billion yen, its net debt is less, at around 498.6 billion yen.

MISX: MGNT Debt to equity history November 26, 2021

A look at Magnit’s responsibilities

Zooming in on the latest balance sheet data, we can see that Magnit had a liability of 292.8 billion yen due within 12 months and a liability of 558.4 billion yen beyond. In compensation for these obligations, he had a cash position of 129.7 billion yen as well as receivables valued at 12.7 billion yen due within 12 months. Thus, its liabilities exceed the sum of its cash and (short-term) receivables by 708.8 b.

When you consider that this deficit exceeds the company’s 590.0 billion yen market capitalization, you might well be inclined to take a close look at the balance sheet. In the event that the company were to clean up its balance sheet quickly, it seems likely that shareholders would suffer significant dilution.

In order to measure a company’s debt relative to its profits, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its profit before interest and taxes (EBIT) divided by its interest. debtors (its interest coverage). Thus, we consider debt versus earnings with and without amortization expenses.

While we’re not worried about Magnit’s 4.0 net debt to EBITDA ratio, we do think its ultra-low 1.9 times interest coverage is a sign of high leverage. Shareholders should therefore probably be aware that interest charges seem to have had a real impact on the company in recent times. The good news is that Magnit has increased its EBIT by 31% over the past twelve months. Like a mother’s loving embrace of a newborn, this type of growth builds resilience, putting the business in a stronger position to manage debt. The balance sheet is clearly the area to focus on when analyzing debt. But ultimately, the company’s future profitability will decide whether Magnit can strengthen its balance sheet over time. So, if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.

Finally, a business can only repay its debts with hard cash, not with book profits. The logical step is therefore to examine the proportion of this EBIT that corresponds to the actual free cash flow. Over the past three years, Magnit has actually generated more free cash flow than EBIT. There is nothing better than cash flow to stay in the good graces of your lenders.

Our point of view

Whereas the coverage of Magnit’s interests makes us nervous. For example, its conversion from EBIT to free cash flow and the growth rate of EBIT give us some confidence in its ability to manage its debt. We think Magnit’s debt makes it a bit risky, having looked at the aforementioned data points together. Not all risks are bad, as they can increase stock returns if they are profitable, but this risk of leverage is worth keeping in mind. When analyzing debt levels, the balance sheet is the obvious starting point. However, not all investment risks lie on the balance sheet – far from it. For example, we have identified 2 warning signs for Magnit that you need to be aware of.

At the end of the day, it’s often best to focus on businesses that don’t have net debt. You can access our special list of these companies (all with a history of profit growth). It’s free.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in the mentioned stocks.

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