These 4 Measures Indicate That Bombay Burmah Trading Corporation (NSE:BBTC) Is Using Debt Reasonably Well

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. As with many other companies The Bombay Burmah Trading Corporation, Limited (NSE:BBTC) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. If things get really bad, the lenders can take control of the business. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Bombay Burmah Trading Corporation

What Is Bombay Burmah Trading Corporation's Debt?

As you can see below, Bombay Burmah Trading Corporation had ₹29.6b of debt at September 2024, down from ₹55.3b a year prior. However, because it has a cash reserve of ₹26.2b, its net debt is less, at about ₹3.40b.

How Healthy Is Bombay Burmah Trading Corporation's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Bombay Burmah Trading Corporation had liabilities of ₹55.9b due within 12 months and liabilities of ₹9.58b due beyond that. Offsetting these obligations, it had cash of ₹26.2b as well as receivables valued at ₹6.49b due within 12 months. So its liabilities total ₹32.8b more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Bombay Burmah Trading Corporation is worth ₹115.9b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Bombay Burmah Trading Corporation has a low net debt to EBITDA ratio of only 0.10. And its EBIT covers its interest expense a whopping 20.5 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. But the other side of the story is that Bombay Burmah Trading Corporation saw its EBIT decline by 5.0% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Bombay Burmah Trading Corporation 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.

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 that EBIT is backed by free cash flow. In the last three years, Bombay Burmah Trading Corporation's free cash flow amounted to 43% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Our View

Bombay Burmah Trading Corporation's interest cover was a real positive on this analysis, as was its net debt to EBITDA. Having said that, its EBIT growth rate somewhat sensitizes us to potential future risks to the balance sheet. When we consider all the elements mentioned above, it seems to us that Bombay Burmah Trading Corporation is managing its debt quite well. But a word of caution: we think debt levels are high enough to justify ongoing monitoring. Over time, share prices tend to follow earnings per share, so if you're interested in Bombay Burmah Trading Corporation, you may well want to click here to check an interactive graph of its earnings per share history.

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.