Berkshire Hathaway’s Charlie Munger-backed external fund manager Li Lu is quick to say “The biggest risk in investing is not price volatility, but whether you will suffer a permanent loss of capital”. So it can be obvious that you need to consider debt, when you think about how risky a given stock is, because too much debt can sink a business. Above all, Mondelez International, Inc. (NASDAQ: MDLZ) is in debt. But should shareholders be concerned about its use of debt?
Why Does Debt Bring Risk?
Debts and other liabilities become risky for a business when it cannot easily meet these obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, the advantage of debt is that it often represents cheap capital, especially when it replaces dilution in a business with the ability to reinvest at high rates of return. The first step in examining a company’s debt levels is to consider its cash flow and debt together.
See our latest analysis for Mondelez International
What is Mondelez International’s net debt?
The graph below, which you can click for more details, shows that Mondelez International had $ 19.3 billion in debt as of June 2021; about the same as the year before. However, he also had $ 1.95 billion in cash, so his net debt is $ 17.3 billion.
Is Mondelez International’s balance sheet healthy?
The latest balance sheet data shows Mondelez International had liabilities of US $ 14.1 billion due within one year, and liabilities of US $ 24.8 billion due thereafter. In compensation for these obligations, it had cash of US $ 1.95 billion as well as receivables valued at US $ 2.91 billion due within 12 months. Its liabilities therefore total $ 34.0 billion more than the combination of its cash and short-term receivables.
Mondelez International has a very large market cap of $ 84.9 billion, so it could very likely raise funds to improve its balance sheet, should the need arise. But we absolutely want to keep our eyes open for indications that its debt is too risky.
We measure a company’s debt load relative to its earning capacity by looking at its net debt divided by its earnings before interest, taxes, depreciation, and amortization (EBITDA) and calculating how easily its earnings before interest and taxes (EBIT) covers its interest costs (interest coverage). The advantage of this approach is that we take into account both the absolute amount of debt (with net debt versus EBITDA) and the actual interest charges associated with this debt (with its coverage rate). interests).
Mondelez International’s net debt is 2.8 times its EBITDA, which is significant leverage but still reasonable. But its EBIT was around 13.1 times its interest expense, implying that the company isn’t really paying a high cost to maintain that level of debt. Even if the low cost turned out to be unsustainable, that’s a good sign. Note that Mondelez International’s EBIT jumped like bamboo after the rain, gaining 33% over the past twelve months. This will make it easier to manage your debt. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future profits, more than anything, that will determine Mondelez International’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 analyst earnings forecast report interesting.
Finally, a business needs free cash flow to repay its debts; accounting profits are not enough. 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, Mondelez International has recorded free cash flow of 76% of its EBIT, which is close to normal, given that free cash flow excludes interest and taxes. This hard cash allows him to reduce his debt whenever he wants.
Our point of view
Mondelez International’s interest coverage suggests he can manage his debt as easily as Cristiano Ronaldo could score a goal against an Under-14 goalkeeper. But, on a darker note, we’re a little concerned about its net debt to EBITDA. As you zoom out, Mondelez International seems to be using the debt quite reasonably; and that gets the nod from us. While debt comes with risk, when used wisely, it can also generate a higher return on equity. The balance sheet is clearly the area you need to focus on when analyzing debt. However, not all investment risks lie on the balance sheet – far from it. These risks can be difficult to spot. Every business has them, and we’ve spotted 2 warning signs for Mondelez International you should know.
If, after all of this, you’re more interested in a fast-growing company with a strong balance sheet, take a quick look at our list of cash net growth stocks.
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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