Does Amara Raja Energy & Mobility (NSE:ARE&M) Have A Healthy Balance Sheet?

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.' 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. As with many other companies Amara Raja Energy & Mobility Limited (NSE:ARE&M) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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 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. 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.

View our latest analysis for Amara Raja Energy & Mobility

What Is Amara Raja Energy & Mobility's Net Debt?

As you can see below, at the end of September 2024, Amara Raja Energy & Mobility had ₹2.17b of debt, up from ₹165.2m a year ago. Click the image for more detail. However, its balance sheet shows it holds ₹6.00b in cash, so it actually has ₹3.83b net cash.

A Look At Amara Raja Energy & Mobility's Liabilities

Zooming in on the latest balance sheet data, we can see that Amara Raja Energy & Mobility had liabilities of ₹23.0b due within 12 months and liabilities of ₹4.79b due beyond that. On the other hand, it had cash of ₹6.00b and ₹11.4b worth of receivables due within a year. So its liabilities total ₹10.4b more than the combination of its cash and short-term receivables.

Of course, Amara Raja Energy & Mobility has a market capitalization of ₹231.7b, so these liabilities are probably manageable. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. While it does have liabilities worth noting, Amara Raja Energy & Mobility also has more cash than debt, so we're pretty confident it can manage its debt safely.

Also good is that Amara Raja Energy & Mobility grew its EBIT at 19% over the last year, further increasing its ability to manage debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Amara Raja Energy & Mobility's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Amara Raja Energy & Mobility 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. Looking at the most recent three years, Amara Raja Energy & Mobility recorded free cash flow of 25% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

We could understand if investors are concerned about Amara Raja Energy & Mobility's liabilities, but we can be reassured by the fact it has has net cash of ₹3.83b. And it impressed us with its EBIT growth of 19% over the last year. So we don't have any problem with Amara Raja Energy & Mobility's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for Amara Raja Energy & Mobility 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.

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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.