Is Eicher Motors (NSE:EICHERMOT) Using Too Much Debt?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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, Eicher Motors Limited (NSE:EICHERMOT) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest 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 Eicher Motors

What Is Eicher Motors's Debt?

You can click the graphic below for the historical numbers, but it shows that Eicher Motors had ₹1.64b of debt in September 2020, down from ₹2.79b, one year before. But on the other hand it also has ₹68.3b in cash, leading to a ₹66.7b net cash position.

How Healthy Is Eicher Motors' Balance Sheet?

According to the last reported balance sheet, Eicher Motors had liabilities of ₹22.1b due within 12 months, and liabilities of ₹4.03b due beyond 12 months. Offsetting this, it had ₹68.3b in cash and ₹1.10b in receivables that were due within 12 months. So it actually has ₹43.3b more liquid assets than total liabilities.

This short term liquidity is a sign that Eicher Motors could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Eicher Motors has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that Eicher Motors's load is not too heavy, because its EBIT was down 45% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Eicher Motors can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Eicher Motors has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Looking at the most recent three years, Eicher Motors recorded free cash flow of 48% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Eicher Motors has net cash of ₹66.7b, as well as more liquid assets than liabilities. So we don't have any problem with Eicher Motors's use of debt. 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. For instance, we've identified 3 warning signs for Eicher Motors that you should be aware of.

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.

If you decide to trade Eicher Motors, use the lowest-cost* platform that is rated #1 Overall by Barron’s, Interactive Brokers. Trade stocks, options, futures, forex, bonds and funds on 135 markets, all from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.