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”. It is only natural to consider a company’s balance sheet when looking at its level of risk, as debt is often involved when a business collapses. We can see that Balaji Amines Limited (NSE: BALAMINES) uses debt in its activity. But the most important question is: what risk does this debt create?
Why Does Debt Bring Risk?
Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, then it exists at their mercy. If things really go wrong, lenders can take over the business. 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. By replacing dilution, however, debt can be a very good tool for companies that need capital to invest in growth at high rates of return. When we look at debt levels, we first consider both liquidity and debt levels.
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What is the debt of Balaji Amines?
You can click on the graph below for the historical figures, but it shows that Balaji Amines had a debt of 1.30 billion yen in March 2021, down from 2.60 billion yen a year earlier. However, he also had 173.2 million yen in cash, so his net debt is 1.13 billion yen.
How strong is Balaji Amines’ balance sheet?
The latest balance sheet data shows that Balaji Amines had liabilities of 2.43 billion yen due within one year, and liabilities of 1.58 billion yen due thereafter. In compensation for these obligations, he had cash of 173.2 million as well as receivables valued at 3.83 million maturing within 12 months. Thus, its total liabilities correspond more or less perfectly to its short-term liquid assets.
Considering the size of Balaji Amines, it appears that its liquid assets are well balanced with its total liabilities. So while it’s hard to imagine the 146.4ba company struggling to find money, we still think it’s worth watching its balance sheet. But in any case, Balaji Amines has virtually no net debt, so it’s fair to say that she doesn’t have a lot of debt!
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).
Balaji Amines has a low net debt to EBITDA ratio of just 0.24. And its EBIT easily covers its interest costs, being 28.1 times higher. So we’re pretty relaxed about its ultra-conservative use of debt. Best of all, Balaji Amines increased its EBIT by 161% last year, which is an impressive improvement. This boost will make it even easier to pay down debt in the future. The balance sheet is clearly the area you need to focus on when analyzing debt. But ultimately, the company’s future profitability will decide whether Balaji Amines can strengthen its balance sheet over time. So if you are focused on the future you can check this out free report showing analysts’ earnings forecasts.
But our last consideration is also important, because a company cannot pay its debts with paper profits; he needs hard cash. We must therefore clearly verify whether this EBIT generates a corresponding free cash flow. In the past three years, Balaji Amines has recorded negative free cash flow, in total. Debt is much riskier for companies with unreliable free cash flow, so shareholders should hope that past spending will produce free cash flow in the future.
Our point of view
Balaji Amines’ interest coverage suggests he can manage his debt as easily as Cristiano Ronaldo could score a goal against an Under-14 keeper. But the hard truth is that we are concerned about its conversion from EBIT to free cash flow. When we consider the range of factors above, it seems that Balaji Amines is quite reasonable with its use of debt. While this carries some risk, it can also improve returns for shareholders. The balance sheet is clearly the area you need to focus on when analyzing debt. But at the end of the day, every business can contain risks that exist off the balance sheet. For example, we have identified 1 warning sign for Balaji Amines that you need to be aware of.
At the end of the day, sometimes it’s easier to focus on businesses that don’t even need to go into debt. Readers can access a list of growth stocks with zero net debt 100% free, at present.
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 material. Simply Wall St has no position in the mentioned stocks.
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