These 4 Measures Indicate That Emami (NSE:EMAMILTD) Is Using Debt Reasonably Well

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Emami Limited (NSE:EMAMILTD) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

View our latest analysis for Emami

How Much Debt Does Emami Carry?

You can click the graphic below for the historical numbers, but it shows that Emami had ₹974.8m of debt in September 2022, down from ₹1.28b, one year before. However, its balance sheet shows it holds ₹2.50b in cash, so it actually has ₹1.52b net cash.

A Look At Emami's Liabilities

According to the last reported balance sheet, Emami had liabilities of ₹7.52b due within 12 months, and liabilities of ₹785.5m due beyond 12 months. Offsetting this, it had ₹2.50b in cash and ₹3.57b in receivables that were due within 12 months. So it has liabilities totalling ₹2.24b more than its cash and near-term receivables, combined.

Having regard to Emami's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the ₹168.5b company is short on cash, but still worth keeping an eye on the balance sheet. Despite its noteworthy liabilities, Emami boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Emami saw its EBIT drop by 9.4% in the last twelve months. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Emami 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. While Emami 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. During the last three years, Emami generated free cash flow amounting to a very robust 81% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing Up

We could understand if investors are concerned about Emami's liabilities, but we can be reassured by the fact it has has net cash of ₹1.52b. The cherry on top was that in converted 81% of that EBIT to free cash flow, bringing in ₹1.4b. So is Emami's debt a risk? It doesn't seem so to us. 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. Case in point: We've spotted 1 warning sign for Emami you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.