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. It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Marshall Motor Holdings Plc (LON:MMH) does have debt on its balance sheet. But should shareholders be worried about its use of debt?
Why Does Debt Bring Risk?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.
How Much Debt Does Marshall Motor Holdings Carry?
As you can see below, Marshall Motor Holdings had UK£6.15m of debt at June 2019, down from UK£6.79m a year prior. But it also has UK£11.9m in cash to offset that, meaning it has UK£5.79m net cash.
How Healthy Is Marshall Motor Holdings's Balance Sheet?
According to the last reported balance sheet, Marshall Motor Holdings had liabilities of UK£550.5m due within 12 months, and liabilities of UK£107.9m due beyond 12 months. Offsetting this, it had UK£11.9m in cash and UK£113.1m in receivables that were due within 12 months. So its liabilities total UK£533.4m more than the combination of its cash and short-term receivables.
This deficit casts a shadow over the UK£116.5m company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Marshall Motor Holdings would likely require a major re-capitalisation if it had to pay its creditors today. Marshall Motor Holdings boasts net cash, so it's fair to say it does not have a heavy debt load, even if it does have very significant liabilities, in total.
Sadly, Marshall Motor Holdings's EBIT actually dropped 9.5% in the last year. If earnings continue on that decline then managing that debt will be difficult like delivering hot soup on a unicycle. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Marshall Motor Holdings'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Marshall Motor Holdings 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. Over the last three years, Marshall Motor Holdings 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.
While Marshall Motor Holdings does have more liabilities than liquid assets, it also has net cash of UK£5.79m. Unfortunately, though, both its struggle level of total liabilities and its conversion of EBIT to free cash flow leave us concerned about Marshall Motor Holdings So even though it has net cash, we do think the business has some risks worth watching. Given Marshall Motor Holdings has a strong balance sheet is profitable and pays a dividend, it would be good to know how fast its dividends are growing, if at all. You can find out instantly by clicking this link.
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.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned.
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