These 4 Measures Indicate That Amara Raja Energy & Mobility (NSE:ARE&M) Is Using Debt Reasonably Well

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.' 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 note that Amara Raja Energy & Mobility Limited (NSE:ARE&M) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. 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. 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 think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Amara Raja Energy & Mobility

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

You can click the graphic below for the historical numbers, but it shows that as of September 2024 Amara Raja Energy & Mobility had ₹3.38b of debt, an increase on ₹1.08b, over one year. However, it does have ₹6.00b in cash offsetting this, leading to net cash of ₹2.62b.

How Strong Is Amara Raja Energy & Mobility's Balance Sheet?

The latest balance sheet data shows that Amara Raja Energy & Mobility had liabilities of ₹23.0b due within a year, and liabilities of ₹4.79b falling due after that. On the other hand, it had cash of ₹6.00b and ₹11.4b worth of receivables due within a year. So it has liabilities totalling ₹10.4b more than its cash and near-term receivables, combined.

Since publicly traded Amara Raja Energy & Mobility shares are worth a total of ₹176.0b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, Amara Raja Energy & Mobility boasts net cash, so it's fair to say it does not have a heavy debt load!

Fortunately, Amara Raja Energy & Mobility grew its EBIT by 9.8% in the last year, making that debt load look even more manageable. When analysing debt levels, the balance sheet is the obvious place to start. 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. 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. In the last three years, Amara Raja Energy & Mobility's free cash flow amounted to 30% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Amara Raja Energy & Mobility has ₹2.62b in net cash. And it also grew its EBIT by 9.8% over the last year. So we are not troubled with Amara Raja Energy & Mobility's debt use. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 1 warning sign we've spotted with Amara Raja Energy & Mobility .

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.

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

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.