Yahoo Finance Is Magellan Aerospace (TSE:MAL) Using Too Much Debt?
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. When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Magellan Aerospace Corporation (TSE:MAL) does carry debt. But the real question is whether this debt is making the company risky.
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. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.
Check out our latest analysis for Magellan Aerospace
How Much Debt Does Magellan Aerospace Carry?
As you can see below, Magellan Aerospace had CA$70.5m of debt at June 2019, down from CA$75.8m a year prior. However, because it has a cash reserve of CA$41.4m, its net debt is less, at about CA$29.1m.
How Strong Is Magellan Aerospace's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Magellan Aerospace had liabilities of CA$194.0m due within 12 months and liabilities of CA$105.4m due beyond that. Offsetting these obligations, it had cash of CA$41.4m as well as receivables valued at CA$284.1m due within 12 months. So it actually has CA$26.0m more liquid assets than total liabilities.
This surplus suggests that Magellan Aerospace has a conservative balance sheet, and could probably eliminate its debt without much difficulty.
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.
Magellan Aerospace has a low net debt to EBITDA ratio of only 0.19. And its EBIT easily covers its interest expense, being 25.3 times the size. So we're pretty relaxed about its super-conservative use of debt. Magellan Aerospace's EBIT was pretty flat over the last year, but that shouldn't be an issue given the it doesn't have a lot of 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 Magellan Aerospace'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. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Over the most recent three years, Magellan Aerospace recorded free cash flow worth 59% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.
Our View
Magellan Aerospace's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. And the good news does not stop there, as its net debt to EBITDA also supports that impression! Zooming out, Magellan Aerospace seems to use debt quite reasonably; and that gets the nod from us. While debt does bring risk, when used wisely it can also bring a higher return on equity. Over time, share prices tend to follow earnings per share, so if you're interested in Magellan Aerospace, you may well want to click here to check an interactive graph of its earnings per share history.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.
If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. 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. Thank you for reading.
