These 4 Measures Indicate That Galaxy Surfactants (NSE:GALAXYSURF) Is Using Debt Reasonably Well

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. Importantly, Galaxy Surfactants Limited (NSE:GALAXYSURF) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Galaxy Surfactants

What Is Galaxy Surfactants's Debt?

You can click the graphic below for the historical numbers, but it shows that Galaxy Surfactants had ₹2.14b of debt in September 2020, down from ₹2.89b, one year before. However, because it has a cash reserve of ₹886.1m, its net debt is less, at about ₹1.25b.

A Look At Galaxy Surfactants' Liabilities

Zooming in on the latest balance sheet data, we can see that Galaxy Surfactants had liabilities of ₹4.96b due within 12 months and liabilities of ₹1.51b due beyond that. Offsetting this, it had ₹886.1m in cash and ₹4.44b in receivables that were due within 12 months. So it has liabilities totalling ₹1.15b more than its cash and near-term receivables, combined.

Having regard to Galaxy Surfactants' size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the ₹77.7b company is short on cash, but still worth keeping an eye on the balance sheet.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Galaxy Surfactants has a low net debt to EBITDA ratio of only 0.32. And its EBIT covers its interest expense a whopping 19.6 times over. So we're pretty relaxed about its super-conservative use of debt. Fortunately, Galaxy Surfactants grew its EBIT by 8.5% in the last year, making that debt load look even more manageable. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Galaxy Surfactants 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 company can only pay off debt with cold hard cash, not accounting profits. So we always check how much of that EBIT is translated into free cash flow. During the last three years, Galaxy Surfactants produced sturdy free cash flow equating to 59% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

The good news is that Galaxy Surfactants's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. And that's just the beginning of the good news since its net debt to EBITDA is also very heartening. Zooming out, Galaxy Surfactants seems to use debt quite reasonably; and that gets the nod from us. After all, sensible leverage can boost returns on equity. 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. For instance, we've identified 2 warning signs for Galaxy Surfactants that you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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