Asian Hotels (East) (NSE:AHLEAST) Takes On Some Risk With Its Use Of 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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that Asian Hotels (East) Limited (NSE:AHLEAST) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Asian Hotels (East)

What Is Asian Hotels (East)'s Net Debt?

The image below, which you can click on for greater detail, shows that Asian Hotels (East) had debt of ₹969.7m at the end of March 2020, a reduction from ₹1.25b over a year. However, its balance sheet shows it holds ₹1.26b in cash, so it actually has ₹287.4m net cash.

A Look At Asian Hotels (East)'s Liabilities

Zooming in on the latest balance sheet data, we can see that Asian Hotels (East) had liabilities of ₹996.8m due within 12 months and liabilities of ₹1.09b due beyond that. Offsetting this, it had ₹1.26b in cash and ₹234.3m in receivables that were due within 12 months. So it has liabilities totalling ₹597.6m more than its cash and near-term receivables, combined.

This deficit isn't so bad because Asian Hotels (East) is worth ₹1.76b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. Despite its noteworthy liabilities, Asian Hotels (East) boasts net cash, so it's fair to say it does not have a heavy debt load!

Importantly, Asian Hotels (East)'s EBIT fell a jaw-dropping 80% in the last twelve months. If that decline continues then paying off debt will be harder than selling foie gras at a vegan convention. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Asian Hotels (East)'s earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Asian Hotels (East) may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Asian Hotels (East) actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

Although Asian Hotels (East)'s balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of ₹287.4m. And it impressed us with free cash flow of ₹631m, being 306% of its EBIT. So while Asian Hotels (East) does not have a great balance sheet, it's certainly not too bad. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Consider for instance, the ever-present spectre of investment risk. We've identified 1 warning sign with Asian Hotels (East) , and understanding them should be part of your investment process.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.
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