Fomento Economico Mexicano. from (BMV:FEMSAUBD) seems to be using debt quite wisely

Legendary fund manager Li Lu (whom Charlie Munger once backed) once said, “The biggest risk in investing is not price volatility, but whether you will suffer a permanent loss of capital. So it seems smart money knows that debt – which is usually involved in bankruptcies – is a very important factor when you’re assessing a company’s risk. We can see that Fomento Economico Mexicano, SAB de CV (BMV:FEMSAUBD) uses debt in its business. But the more important question is: what risk does this debt create?

What risk does debt carry?

Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, it exists at their mercy. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more usual (but still expensive) situation is when a company has to dilute shareholders at a cheap share price just to keep 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 thing to do when considering how much debt a business has is to look at its cash and debt together.

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What is Fomento Económico Mexicano. debt ?

The image below, which you can click on for more details, shows that Fomento Económico Mexicano. had a debt of 173.9 billion pesos at the end of September 2022, a reduction from 190.2 billion pesos year on year. However, he has 101.1 billion Mexican pesos in cash to offset this, resulting in a net debt of approximately 72.8 billion Mexican pesos.

A look at Fomento Económico Mexicano. Responsibilities of

We can see in the most recent report that Fomento Económico Mexicano. de had liabilities of 167.6 billion pesos maturing within one year and liabilities of 244.2 billion pesos due beyond. On the other hand, it had a cash position of 101.1 billion pesos and 58.1 billion pesos in receivables at less than one year. Its liabilities therefore total 252.7 billion pesos more than its cash and short-term receivables combined.

This deficit is not so serious because Fomento Económico Mexicano. de is worth a whopping 506.2 billion Mexican dollars and therefore could probably raise enough capital to shore up its balance sheet, should the need arise. However, it is always worth taking a close look at its ability to repay debt.

In order to assess a company’s debt relative to its earnings, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its earnings before interest and taxes (EBIT) divided by its expenses. interest (its interest coverage). The advantage of this approach is that we consider both the absolute amount of debt (with net debt to EBITDA) and the actual interest expense associated with that debt (with its interest coverage ratio ).

While Fomento Económico Mexicano. The low debt to EBITDA ratio of 1.1 suggests modest use of debt, the fact that EBIT covered interest charges only 5.9 times last year gives us pause. We therefore recommend that you closely monitor the impact of financing costs on the company. Unfortunately, Fomento Económico Mexicano. de has seen its EBIT fall by 7.0% over the last twelve months. If this earnings trend continues, its leverage will become heavy like the heart of a polar bear looking at its only cub. When analyzing debt levels, the balance sheet is the obvious starting point. But ultimately, the future profitability of the business will decide whether Fomento Económico Mexicano. 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.

But our last consideration is also important, because a company cannot pay debt with paper profits; he needs cash. It is therefore worth checking how much of this EBIT is supported by free cash flow. Over the past three years, Fomento Económico Mexicano. de generated free cash flow of a very strong 82% of its EBIT, more than we expected. This positions him well to pay off debt if desired.

Our point of view

Regarding the balance sheet, the positive point for Fomento Económico Mexicano. de was the fact that he seems able to convert EBIT into free cash flow with confidence. However, our other observations were not so encouraging. For example, it looks like it has to struggle a bit to increase its EBIT. When we consider all the elements mentioned above, it seems to us that Fomento Económico Mexicano. to manage its debt fairly well. That said, the charge is heavy enough that we recommend that any shareholder keep a close eye on it. Over time stock prices tend to follow earnings per share, so if you are interested in Fomento Económico Mexicano. de, you might want to click here to see an interactive chart of its earnings per share history.

In the end, sometimes it’s easier to focus on companies that don’t even need to take on debt. Readers can access a list of growth stocks with no net debt 100% freeat present.

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