Is Bharat Rasayan (NSE:BHARATRAS) Using Too Much Debt?

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. As with many other companies Bharat Rasayan Limited (NSE:BHARATRAS) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. 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, 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 Bharat Rasayan

What Is Bharat Rasayan's Net Debt?

The image below, which you can click on for greater detail, shows that Bharat Rasayan had debt of ₹349.8m at the end of September 2020, a reduction from ₹1.86b over a year. But it also has ₹750.9m in cash to offset that, meaning it has ₹401.1m net cash.

How Strong Is Bharat Rasayan's Balance Sheet?

We can see from the most recent balance sheet that Bharat Rasayan had liabilities of ₹1.61b falling due within a year, and liabilities of ₹119.7m due beyond that. On the other hand, it had cash of ₹750.9m and ₹3.35b worth of receivables due within a year. So it actually has ₹2.38b more liquid assets than total liabilities.

This surplus suggests that Bharat Rasayan has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Bharat Rasayan boasts net cash, so it's fair to say it does not have a heavy debt load!

On the other hand, Bharat Rasayan saw its EBIT drop by 8.9% in the last twelve months. 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 you can't view debt in total isolation; since Bharat Rasayan will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Bharat Rasayan 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. Looking at the most recent three years, Bharat Rasayan recorded free cash flow of 34% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While it is always sensible to investigate a company's debt, in this case Bharat Rasayan has ₹401.1m in net cash and a decent-looking balance sheet. So we are not troubled with Bharat Rasayan's debt use. We'd be motivated to research the stock further if we found out that Bharat Rasayan insiders have bought shares recently. If you would too, then you're in luck, since today we're sharing our list of reported insider transactions for free.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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