These 4 Measures Indicate That Bannari Amman Spinning Mills (NSE:BASML) Is Using Debt In A Risky Way

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. Importantly, Bannari Amman Spinning Mills Ltd (NSE:BASML) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. If things get really bad, the lenders can take control of the business. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

Check out our latest analysis for Bannari Amman Spinning Mills

How Much Debt Does Bannari Amman Spinning Mills Carry?

The image below, which you can click on for greater detail, shows that Bannari Amman Spinning Mills had debt of ₹5.06b at the end of March 2024, a reduction from ₹6.20b over a year. Net debt is about the same, since the it doesn't have much cash.

How Strong Is Bannari Amman Spinning Mills' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Bannari Amman Spinning Mills had liabilities of ₹5.41b due within 12 months and liabilities of ₹2.36b due beyond that. On the other hand, it had cash of ₹80.0m and ₹1.67b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹6.01b.

This deficit casts a shadow over the ₹3.67b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. At the end of the day, Bannari Amman Spinning Mills would probably need a major re-capitalization if its creditors were to demand repayment.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Bannari Amman Spinning Mills shareholders face the double whammy of a high net debt to EBITDA ratio (14.1), and fairly weak interest coverage, since EBIT is just 0.0019 times the interest expense. The debt burden here is substantial. Worse, Bannari Amman Spinning Mills's EBIT was down 99% over the last year. If earnings keep going like that over the long term, it has a snowball's chance in hell of paying off that debt. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Bannari Amman Spinning Mills 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. Over the most recent three years, Bannari Amman Spinning Mills recorded free cash flow worth 53% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

To be frank both Bannari Amman Spinning Mills's EBIT growth rate and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. After considering the datapoints discussed, we think Bannari Amman Spinning Mills has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 3 warning signs for Bannari Amman Spinning Mills (2 are significant!) 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.

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