These 4 Measures Indicate That Jaiprakash Associates (NSE:JPASSOCIAT) Is Using Debt Extensively

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We note that Jaiprakash Associates Limited (NSE:JPASSOCIAT) does have debt on its balance sheet. 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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 Jaiprakash Associates

What Is Jaiprakash Associates's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2021 Jaiprakash Associates had ₹191.0b of debt, an increase on ₹171.2b, over one year. Net debt is about the same, since the it doesn't have much cash.

A Look At Jaiprakash Associates' Liabilities

The latest balance sheet data shows that Jaiprakash Associates had liabilities of ₹143.7b due within a year, and liabilities of ₹218.6b falling due after that. Offsetting this, it had ₹3.77b in cash and ₹24.7b in receivables that were due within 12 months. So its liabilities total ₹333.9b more than the combination of its cash and short-term receivables.

This deficit casts a shadow over the ₹21.1b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Jaiprakash Associates would probably need a major re-capitalization if its creditors were to demand repayment.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Weak interest cover of 0.56 times and a disturbingly high net debt to EBITDA ratio of 17.8 hit our confidence in Jaiprakash Associates like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. One redeeming factor for Jaiprakash Associates is that it turned last year's EBIT loss into a gain of ₹6.0b, over the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But it is Jaiprakash Associates'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the last year, Jaiprakash Associates recorded free cash flow worth a fulsome 83% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.

Our View

To be frank both Jaiprakash Associates's interest cover and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But on the bright side, its conversion of EBIT to free cash flow is a good sign, and makes us more optimistic. We're quite clear that we consider Jaiprakash Associates to be really rather risky, as a result of its balance sheet health. So we're almost as wary of this stock as a hungry kitten is about falling into its owner's fish pond: once bitten, twice shy, as they say. 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. Case in point: We've spotted 1 warning sign for Jaiprakash Associates 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.