Stock Analysis

Bharat Petroleum (NSE:BPCL) Has A Pretty Healthy Balance Sheet

NSEI:BPCL
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Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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, Bharat Petroleum Corporation Limited (NSE:BPCL) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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 frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Bharat Petroleum

How Much Debt Does Bharat Petroleum Carry?

You can click the graphic below for the historical numbers, but it shows that Bharat Petroleum had ₹398.2b of debt in March 2021, down from ₹595.1b, one year before. On the flip side, it has ₹155.0b in cash leading to net debt of about ₹243.2b.

debt-equity-history-analysis
NSEI:BPCL Debt to Equity History July 26th 2021

A Look At Bharat Petroleum's Liabilities

Zooming in on the latest balance sheet data, we can see that Bharat Petroleum had liabilities of ₹569.3b due within 12 months and liabilities of ₹505.1b due beyond that. Offsetting these obligations, it had cash of ₹155.0b as well as receivables valued at ₹79.7b due within 12 months. So it has liabilities totalling ₹839.7b more than its cash and near-term receivables, combined.

This deficit is considerable relative to its very significant market capitalization of ₹1.00t, so it does suggest shareholders should keep an eye on Bharat Petroleum's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Bharat Petroleum has net debt of just 1.1 times EBITDA, indicating that it is certainly not a reckless borrower. And it boasts interest cover of 9.8 times, which is more than adequate. Better yet, Bharat Petroleum grew its EBIT by 151% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Bharat Petroleum can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

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. Looking at the most recent three years, Bharat Petroleum recorded free cash flow of 27% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

When it comes to the balance sheet, the standout positive for Bharat Petroleum was the fact that it seems able to grow its EBIT confidently. But the other factors we noted above weren't so encouraging. For example, its level of total liabilities makes us a little nervous about its debt. Looking at all this data makes us feel a little cautious about Bharat Petroleum's debt levels. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. 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. For example, we've discovered 4 warning signs for Bharat Petroleum (1 is significant!) that you should be aware of before investing here.

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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