These 4 Measures Indicate That Sangam (India) (NSE:SANGAMIND) Is Using Debt Extensively

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Sangam (India) Limited (NSE:SANGAMIND) 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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Sangam (India)

What Is Sangam (India)'s Net Debt?

As you can see below, Sangam (India) had ₹5.14b of debt at March 2021, down from ₹6.48b a year prior. However, it also had ₹653.1m in cash, and so its net debt is ₹4.49b.

How Strong Is Sangam (India)'s Balance Sheet?

We can see from the most recent balance sheet that Sangam (India) had liabilities of ₹6.03b falling due within a year, and liabilities of ₹2.53b due beyond that. Offsetting this, it had ₹653.1m in cash and ₹2.86b in receivables that were due within 12 months. So its liabilities total ₹5.05b more than the combination of its cash and short-term receivables.

Given this deficit is actually higher than the company's market capitalization of ₹4.62b, we think shareholders really should watch Sangam (India)'s debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While we wouldn't worry about Sangam (India)'s net debt to EBITDA ratio of 3.7, we think its super-low interest cover of 0.84 times is a sign of high leverage. It seems that the business incurs large depreciation and amortisation charges, so maybe its debt load is heavier than it would first appear, since EBITDA is arguably a generous measure of earnings. So shareholders should probably be aware that interest expenses appear to have really impacted the business lately. Worse, Sangam (India)'s EBIT was down 49% 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. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Sangam (India) 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 the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. Happily for any shareholders, Sangam (India) actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

On the face of it, Sangam (India)'s interest cover left us tentative about the stock, and its EBIT growth rate was no more enticing than the one empty restaurant on the busiest night of the year. But on the bright side, its conversion of EBIT to free cash flow is a good sign, and makes us more optimistic. Overall, we think it's fair to say that Sangam (India) has enough debt that there are some real risks around the balance sheet. If everything goes well that may pay off but the downside of this debt is a greater risk of permanent losses. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 7 warning signs with Sangam (India) (at least 2 which shouldn't be ignored) , and understanding them should be part of your investment process.

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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