Would Shalimar Paints (NSE:SHALPAINTS) Be Better Off With Less Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. We can see that Shalimar Paints Limited (NSE:SHALPAINTS) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Shalimar Paints

What Is Shalimar Paints's Net Debt?

The chart below, which you can click on for greater detail, shows that Shalimar Paints had ₹1.32b in debt in September 2020; about the same as the year before. However, it also had ₹120.5m in cash, and so its net debt is ₹1.20b.

A Look At Shalimar Paints's Liabilities

The latest balance sheet data shows that Shalimar Paints had liabilities of ₹2.11b due within a year, and liabilities of ₹374.7m falling due after that. Offsetting this, it had ₹120.5m in cash and ₹611.9m in receivables that were due within 12 months. So it has liabilities totalling ₹1.75b more than its cash and near-term receivables, combined.

This deficit isn't so bad because Shalimar Paints is worth ₹3.73b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. There's no doubt that we learn most about debt from the balance sheet. But it is Shalimar Paints's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Shalimar Paints made a loss at the EBIT level, and saw its revenue drop to ₹3.0b, which is a fall of 10%. That's not what we would hope to see.

Caveat Emptor

Not only did Shalimar Paints's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping ₹470m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. For example, we would not want to see a repeat of last year's loss of ₹419m. So to be blunt we do think it is risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Take risks, for example - Shalimar Paints has 2 warning signs (and 1 which can't be ignored) we think you should know about.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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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