Mahindra EPC Irrigation (NSE:MAHEPC) Has A Pretty Healthy Balance Sheet

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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 can see that Mahindra EPC Irrigation Limited (NSE:MAHEPC) 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 assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

What Is Mahindra EPC Irrigation's Net Debt?

As you can see below, Mahindra EPC Irrigation had ₹234.0m of debt at September 2024, down from ₹309.1m a year prior. On the flip side, it has ₹119.0m in cash leading to net debt of about ₹115.0m.

How Strong Is Mahindra EPC Irrigation's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Mahindra EPC Irrigation had liabilities of ₹1.01b due within 12 months and liabilities of ₹7.80m due beyond that. Offsetting this, it had ₹119.0m in cash and ₹1.28b in receivables that were due within 12 months. So it can boast ₹383.6m more liquid assets than total liabilities.

This surplus suggests that Mahindra EPC Irrigation has a conservative balance sheet, and could probably eliminate its debt without much difficulty.

See our latest analysis for Mahindra EPC Irrigation

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While Mahindra EPC Irrigation has a quite reasonable net debt to EBITDA multiple of 2.0, its interest cover seems weak, at 1.5. This does suggest the company is paying fairly high interest rates. Either way there's no doubt the stock is using meaningful leverage. Shareholders should be aware that Mahindra EPC Irrigation's EBIT was down 35% last year. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Mahindra EPC Irrigation 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, a company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of that EBIT is backed by free cash flow. Happily for any shareholders, Mahindra EPC Irrigation actually produced more free cash flow than EBIT over the last two years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

We weren't impressed with Mahindra EPC Irrigation's interest cover, and its EBIT growth rate made us cautious. But like a ballerina ending on a perfect pirouette, it has not trouble converting EBIT to free cash flow. When we consider all the factors mentioned above, we do feel a bit cautious about Mahindra EPC Irrigation's use of debt. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Mahindra EPC Irrigation is showing 4 warning signs in our investment analysis , and 2 of those make us uncomfortable...

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.