Is Amara Raja Batteries (NSE:AMARAJABAT) 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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. As with many other companies Amara Raja Batteries Limited (NSE:AMARAJABAT) makes use of debt. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Amara Raja Batteries

What Is Amara Raja Batteries's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2021 Amara Raja Batteries had debt of ₹970.8m, up from ₹709.8m in one year. However, its balance sheet shows it holds ₹4.78b in cash, so it actually has ₹3.81b net cash.

How Strong Is Amara Raja Batteries' Balance Sheet?

According to the last reported balance sheet, Amara Raja Batteries had liabilities of ₹14.8b due within 12 months, and liabilities of ₹2.72b due beyond 12 months. On the other hand, it had cash of ₹4.78b and ₹7.21b worth of receivables due within a year. So its liabilities total ₹5.51b more than the combination of its cash and short-term receivables.

Given Amara Raja Batteries has a market capitalization of ₹95.1b, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Amara Raja Batteries also has more cash than debt, so we're pretty confident it can manage its debt safely.

While Amara Raja Batteries doesn't seem to have gained much on the EBIT line, at least earnings remain stable for now. When analysing debt levels, the balance sheet is the obvious place to start. But it is Amara Raja Batteries'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Amara Raja Batteries 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, Amara Raja Batteries's free cash flow amounted to 39% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Amara Raja Batteries has ₹3.81b in net cash. So we are not troubled with Amara Raja Batteries's debt use. 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 example, we've discovered 1 warning sign for Amara Raja Batteries 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.