Warren Buffett said: “Volatility is far from being synonymous with risk.” Therefore, it may be obvious that debt needs to be considered when thinking about how risky a given security is, because too many debts can sink a company. We note that Mastercard Incorporated (NYSE: MA) has debts in its balance sheet. But should shareholders be worried about using debt?
When is debt dangerous?
Debt assists an enterprise until the enterprise has trouble repaying it, with new capital or free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still expensive) situation is one where a company has to dilute shareholders at an economic stock price simply to keep debt under control. Obviously, the positive side of debt is that it often represents economic capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company’s debt levels is to consider its cash and debt together.
View our latest analysis for Mastercard
What is the Mastercard net debt?
The following image, which can be clicked for more details, shows that in March 2020 Mastercard had a debt of US $ 11.7 billion, up from US $ 6.30 billion in a year. However, he also had $ 10.7 billion in cash and therefore his net debt is $ 1.02 billion.
How strong is the Mastercard balance?
Analyzing the latest balance sheet data, we can see that Mastercard had liabilities of US $ 9.71 billion within 12 months and liabilities of US $ 15.4 billion beyond. Offsetting this, he had $ 10.7 billion in cash and $ 3.61 billion in receivables falling due within 12 months. So its liabilities amount to US $ 10.9 billion more than the combination of liquidity and short-term loans.
Since the listed Mastercard shares are worth an impressive total of US $ 279.5 billion, it seems unlikely that this level of liability is a serious threat. Having said that, it is clear that we should continue to monitor its balance sheet to prevent it from changing for the worse. Having virtually no net debt, Mastercard really has a very light debt load.
We use two main reports to inform us about debt levels related to earnings. The first is net debt divided by earnings before interest, taxes, amortization (EBITDA), while the second is how many times your earnings before interest and taxes (EBIT) cover interest expense (or interest coverage , In short) . The advantage of this approach is that we take into account both the absolute quantum of the debt (with net debt to EBITDA) and the real interest expenses associated with that debt (with its interest coverage ratio).
Mastercard has very little debt (net of liquidity) and has a debt / EBITDA ratio of 0.10 and an EBIT of 60.1 times the cost of interest. So compared to past earnings, the debt burden seems trivial. And we also warmly note that Mastercard increased its EBIT by 11% last year, making it easier to manage the debt load. There is no doubt that we learn more about debt from the budget. But in the end, the company’s future profitability will decide whether Mastercard can strengthen its balance sheet over time. So if you focus on the future, you can check it out free report showing analysts’ profit forecast.
But our final consideration is also important, because a company cannot pay off debt with paper profits; he needs cold cash. So we always check how much of that EBIT is translated into free cash flow. Over the past three years, Mastercard has produced a robust free cash flow of 76% of its EBIT, on what we would expect. This free cash flow puts the company in a good position to pay off debt when appropriate.
Mastercard’s interest coverage suggests that he can manage his debt as easily as Cristiano Ronaldo could score a goal against an under-14 goalkeeper. And the good news does not stop there, as his net debt to EBITDA also support that impression! Considering this range of factors, it seems to us that Mastercard is quite cautious with its debt and that the risks seem well managed. So we are not worried about using a small leverage on the balance sheet. When analyzing debt levels, the balance sheet is the obvious starting point. However, not all investment risks reside in the balance sheet – far from it. To this end, you should be aware of the 2 warning signs we identified with Mastercard.
If, after all this, you are more interested in a fast growing company with a solid balance sheet, then check out our list of net cash growth stocks without delay.
If you notice an error that requires correction, contact the editor at [email protected] This Simply Wall St article is general in nature. It does not constitute a recommendation to buy or sell shares and does not take into account your goals or financial situation. Simply Wall St has no position in the mentioned actions.
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