Does Jindal Drilling & Industries (NSE:JINDRILL) Have A Healthy Balance Sheet?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 Jindal Drilling & Industries Limited (NSE:JINDRILL) makes use of debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Jindal Drilling & Industries

What Is Jindal Drilling & Industries's Debt?

The image below, which you can click on for greater detail, shows that Jindal Drilling & Industries had debt of ₹4.26b at the end of September 2020, a reduction from ₹4.55b over a year. Net debt is about the same, since the it doesn't have much cash.

A Look At Jindal Drilling & Industries' Liabilities

According to the last reported balance sheet, Jindal Drilling & Industries had liabilities of ₹2.91b due within 12 months, and liabilities of ₹3.43b due beyond 12 months. Offsetting these obligations, it had cash of ₹63.5m as well as receivables valued at ₹1.36b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹4.92b.

The deficiency here weighs heavily on the ₹2.87b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, Jindal Drilling & Industries would probably need a major re-capitalization if its creditors were to demand repayment.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

As it happens Jindal Drilling & Industries has a fairly concerning net debt to EBITDA ratio of 7.4 but very strong interest coverage of 1k. This means that unless the company has access to very cheap debt, that interest expense will likely grow in the future. We also note that Jindal Drilling & Industries improved its EBIT from a last year's loss to a positive ₹190m. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Jindal Drilling & Industries 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the last year, Jindal Drilling & Industries 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.

Our View

To be frank both Jindal Drilling & Industries's conversion of EBIT to free cash flow and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least it's pretty decent at covering its interest expense with its EBIT; that's encouraging. Taking into account all the aforementioned factors, it looks like Jindal Drilling & Industries has too much debt. That sort of riskiness is ok for some, but it certainly doesn't float our boat. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 5 warning signs for Jindal Drilling & Industries (of which 2 make us uncomfortable!) you should know about.

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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This article by Simply Wall St is general in nature. 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.
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