Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that '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. We can see that Marico Limited (NSE:MARICO) does use debt in its business. But the real question is whether this debt is making the company risky.
When Is Debt Dangerous?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. When we think about a company's use of debt, we first look at cash and debt together.
Check out our latest analysis for Marico
What Is Marico's Net Debt?
As you can see below, Marico had ₹3.09b of debt at March 2021, down from ₹3.63b a year prior. But on the other hand it also has ₹15.8b in cash, leading to a ₹12.7b net cash position.
How Strong Is Marico's Balance Sheet?
We can see from the most recent balance sheet that Marico had liabilities of ₹20.1b falling due within a year, and liabilities of ₹2.39b due beyond that. On the other hand, it had cash of ₹15.8b and ₹3.95b worth of receivables due within a year. So it has liabilities totalling ₹2.80b more than its cash and near-term receivables, combined.
Having regard to Marico's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the ₹660.9b company is struggling for cash, we still think it's worth monitoring its balance sheet. Despite its noteworthy liabilities, Marico boasts net cash, so it's fair to say it does not have a heavy debt load!
The good news is that Marico has increased its EBIT by 9.0% over twelve months, which should ease any concerns about debt repayment. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Marico 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Marico 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, Marico generated free cash flow amounting to a very robust 97% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.
Summing up
While it is always sensible to look at a company's total liabilities, it is very reassuring that Marico has ₹12.7b in net cash. The cherry on top was that in converted 97% of that EBIT to free cash flow, bringing in ₹19b. So is Marico'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. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with Marico , and understanding them should be part of your investment process.
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. 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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About NSEI:MARICO
Flawless balance sheet with proven track record and pays a dividend.
