Is Tata Steel Long Products (NSE:TATASTLLP) Using Too Much Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a 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. Importantly, Tata Steel Long Products Limited (NSE:TATASTLLP) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Tata Steel Long Products

What Is Tata Steel Long Products's Net Debt?

As you can see below, at the end of March 2020, Tata Steel Long Products had ₹26.4b of debt, up from none a year ago. Click the image for more detail. However, because it has a cash reserve of ₹1.63b, its net debt is less, at about ₹24.8b.

How Healthy Is Tata Steel Long Products's Balance Sheet?

The latest balance sheet data shows that Tata Steel Long Products had liabilities of ₹13.6b due within a year, and liabilities of ₹28.0b falling due after that. On the other hand, it had cash of ₹1.63b and ₹1.76b worth of receivables due within a year. So it has liabilities totalling ₹38.2b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the ₹14.6b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, Tata Steel Long Products would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But it is Tata Steel Long Products'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.

Over 12 months, Tata Steel Long Products reported revenue of ₹34b, which is a gain of 138%, although it did not report any earnings before interest and tax. So its pretty obvious shareholders are hoping for more growth!

Caveat Emptor

While we can certainly appreciate Tata Steel Long Products's revenue growth, its earnings before interest and tax (EBIT) loss is not ideal. Its EBIT loss was a whopping ₹1.9b. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. Of course, it may be able to improve its situation with a bit of luck and good execution. Nevertheless, we would not bet on it given that it vaporized ₹3.7b in cash over the last twelve months, and it doesn't have much by way of liquid assets. So we think this stock is risky, like walking through a dirty dog park with a mask on. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Tata Steel Long Products is showing 3 warning signs in our investment analysis , and 2 of those are potentially serious...

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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