These 4 Measures Indicate That Andhra Sugars (NSE:ANDHRSUGAR) Is Using Debt Reasonably Well

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.' 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. We can see that The Andhra Sugars Limited (NSE:ANDHRSUGAR) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Andhra Sugars

What Is Andhra Sugars's Debt?

As you can see below, Andhra Sugars had ₹1.25b of debt at September 2020, down from ₹2.65b a year prior. However, it does have ₹2.47b in cash offsetting this, leading to net cash of ₹1.22b.

How Strong Is Andhra Sugars' Balance Sheet?

We can see from the most recent balance sheet that Andhra Sugars had liabilities of ₹2.66b falling due within a year, and liabilities of ₹2.69b due beyond that. On the other hand, it had cash of ₹2.47b and ₹2.21b worth of receivables due within a year. So it has liabilities totalling ₹675.5m more than its cash and near-term receivables, combined.

Since publicly traded Andhra Sugars shares are worth a total of ₹8.44b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Andhra Sugars also has more cash than debt, so we're pretty confident it can manage its debt safely.

It is just as well that Andhra Sugars's load is not too heavy, because its EBIT was down 41% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But it is Andhra Sugars's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Andhra Sugars may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. In the last three years, Andhra Sugars's free cash flow amounted to 41% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Andhra Sugars has ₹1.22b in net cash. So we are not troubled with Andhra Sugars's debt use. 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. These risks can be hard to spot. Every company has them, and we've spotted 1 warning sign for Andhra Sugars you should know about.

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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