Is Zodiac Clothing (NSE:ZODIACLOTH) Using Too Much Debt?

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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Zodiac Clothing Company Limited (NSE:ZODIACLOTH) does carry debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Zodiac Clothing

What Is Zodiac Clothing's Debt?

You can click the graphic below for the historical numbers, but it shows that Zodiac Clothing had ₹641.9m of debt in March 2023, down from ₹731.5m, one year before. However, because it has a cash reserve of ₹426.0m, its net debt is less, at about ₹215.9m.

A Look At Zodiac Clothing's Liabilities

The latest balance sheet data shows that Zodiac Clothing had liabilities of ₹761.4m due within a year, and liabilities of ₹255.7m falling due after that. On the other hand, it had cash of ₹426.0m and ₹514.3m worth of receivables due within a year. So it has liabilities totalling ₹76.8m more than its cash and near-term receivables, combined.

Since publicly traded Zodiac Clothing shares are worth a total of ₹3.56b, 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. 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 Zodiac Clothing will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, Zodiac Clothing reported revenue of ₹1.7b, which is a gain of 13%, although it did not report any earnings before interest and tax. That rate of growth is a bit slow for our taste, but it takes all types to make a world.

Caveat Emptor

Importantly, Zodiac Clothing had an earnings before interest and tax (EBIT) loss over the last year. To be specific the EBIT loss came in at ₹284m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled ₹39m in negative free cash flow over the last twelve months. So to be blunt we think it is risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. We've identified 4 warning signs with Zodiac Clothing , and understanding them should be part of your investment process.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.