Would Zodiac Clothing (NSE:ZODIACLOTH) Be Better Off With Less Debt?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Zodiac Clothing Company Limited (NSE:ZODIACLOTH) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. 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

How Much Debt Does Zodiac Clothing Carry?

As you can see below, at the end of September 2020, Zodiac Clothing had ₹620.9m of debt, up from ₹539.1m a year ago. Click the image for more detail. However, because it has a cash reserve of ₹264.2m, its net debt is less, at about ₹356.7m.

How Strong Is Zodiac Clothing's Balance Sheet?

We can see from the most recent balance sheet that Zodiac Clothing had liabilities of ₹1.03b falling due within a year, and liabilities of ₹524.4m due beyond that. Offsetting this, it had ₹264.2m in cash and ₹372.4m in receivables that were due within 12 months. So it has liabilities totalling ₹916.2m more than its cash and near-term receivables, combined.

This deficit isn't so bad because Zodiac Clothing is worth ₹2.22b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt. There's no doubt that we learn most about debt from the balance sheet. But it is Zodiac Clothing's earnings that will influence how the balance sheet holds up in the future. 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.

In the last year Zodiac Clothing had a loss before interest and tax, and actually shrunk its revenue by 36%, to ₹1.3b. That makes us nervous, to say the least.

Caveat Emptor

Not only did Zodiac Clothing's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping ₹249m. 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. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through ₹6.6m of cash over the last year. So suffice it to say we do consider the stock to be risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 2 warning signs for Zodiac Clothing (1 is a bit unpleasant) 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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