We Think Aeron Composite (NSE:AERON) Can Stay On Top Of Its 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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Aeron Composite Limited (NSE:AERON) does use debt in its business. But the more important question is: how much risk is that debt creating?

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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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

What Is Aeron Composite's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Aeron Composite had ₹335.0m of debt, an increase on ₹118.3m, over one year. But on the other hand it also has ₹542.3m in cash, leading to a ₹207.3m net cash position.

A Look At Aeron Composite's Liabilities

We can see from the most recent balance sheet that Aeron Composite had liabilities of ₹785.5m falling due within a year, and liabilities of ₹130.7m due beyond that. On the other hand, it had cash of ₹542.3m and ₹614.9m worth of receivables due within a year. So it can boast ₹241.1m more liquid assets than total liabilities.

This surplus suggests that Aeron Composite has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Aeron Composite boasts net cash, so it's fair to say it does not have a heavy debt load!

View our latest analysis for Aeron Composite

On top of that, Aeron Composite grew its EBIT by 30% over the last twelve months, and that growth will make it easier to handle its debt. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Aeron Composite will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Aeron Composite 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. In the last three years, Aeron Composite created free cash flow amounting to 7.3% of its EBIT, an uninspiring performance. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Aeron Composite has net cash of ₹207.3m, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 30% over the last year. So we don't think Aeron Composite's use of debt is risky. 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. For example, we've discovered 1 warning sign for Aeron Composite that you should be aware of before investing here.

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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.