We Think Avenue Supermarts (NSE:DMART) Can Stay On Top Of Its Debt

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.' 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, Avenue Supermarts Limited (NSE:DMART) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. 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. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Avenue Supermarts

How Much Debt Does Avenue Supermarts Carry?

As you can see below, at the end of September 2021, Avenue Supermarts had ₹5.10b of debt, up from ₹3.29b a year ago. Click the image for more detail. But it also has ₹6.14b in cash to offset that, meaning it has ₹1.04b net cash.

A Look At Avenue Supermarts' Liabilities

According to the last reported balance sheet, Avenue Supermarts had liabilities of ₹11.6b due within 12 months, and liabilities of ₹4.75b due beyond 12 months. Offsetting these obligations, it had cash of ₹6.14b as well as receivables valued at ₹490.9m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹9.77b.

Having regard to Avenue Supermarts' size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the ₹2.68t company is short on cash, but still worth keeping an eye on the balance sheet. While it does have liabilities worth noting, Avenue Supermarts also has more cash than debt, so we're pretty confident it can manage its debt safely.

In addition to that, we're happy to report that Avenue Supermarts has boosted its EBIT by 69%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Avenue Supermarts can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Avenue Supermarts has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Avenue Supermarts saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Avenue Supermarts has ₹1.04b in net cash. And it impressed us with its EBIT growth of 69% over the last year. So we don't have any problem with Avenue Supermarts's use of debt. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Avenue Supermarts you should know about.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.