Is Atul (NSE:ATUL) A Risky Investment?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. Importantly, Atul Ltd (NSE:ATUL) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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.

Check out our latest analysis for Atul

What Is Atul's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Atul had ₹1.10b of debt, an increase on ₹900.4m, over one year. But on the other hand it also has ₹10.2b in cash, leading to a ₹9.13b net cash position.

How Healthy Is Atul's Balance Sheet?

According to the last reported balance sheet, Atul had liabilities of ₹7.12b due within 12 months, and liabilities of ₹2.80b due beyond 12 months. On the other hand, it had cash of ₹10.2b and ₹6.78b worth of receivables due within a year. So it can boast ₹7.09b more liquid assets than total liabilities.

This short term liquidity is a sign that Atul could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Atul boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Atul saw its EBIT drop by 9.0% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Atul 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 Atul 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. Over the most recent three years, Atul recorded free cash flow worth 56% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Atul has net cash of ₹9.13b, as well as more liquid assets than liabilities. So we don't have any problem with Atul's use of debt. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Atul's earnings per share history for free.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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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