Here's Why JSW Ispat Special Products (NSE:JSWISPL) Is Weighed Down By Its Debt Load

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.' 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. We note that JSW Ispat Special Products Limited (NSE:JSWISPL) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. 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, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for JSW Ispat Special Products

How Much Debt Does JSW Ispat Special Products Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2021 JSW Ispat Special Products had ₹29.0b of debt, an increase on ₹26.2b, over one year. However, because it has a cash reserve of ₹1.87b, its net debt is less, at about ₹27.2b.

How Strong Is JSW Ispat Special Products' Balance Sheet?

We can see from the most recent balance sheet that JSW Ispat Special Products had liabilities of ₹14.9b falling due within a year, and liabilities of ₹23.4b due beyond that. On the other hand, it had cash of ₹1.87b and ₹3.38b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹33.0b.

This deficit casts a shadow over the ₹15.9b company, like a colossus towering over mere mortals. So we definitely think shareholders need to watch this one closely. After all, JSW Ispat Special Products would likely require a major re-capitalisation if it had to pay its creditors today.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While JSW Ispat Special Products's debt to EBITDA ratio (4.7) suggests that it uses some debt, its interest cover is very weak, at 1.4, suggesting high leverage. It seems clear that the cost of borrowing money is negatively impacting returns for shareholders, of late. One redeeming factor for JSW Ispat Special Products is that it turned last year's EBIT loss into a gain of ₹3.4b, over the last twelve months. There's no doubt that we learn most about debt from the balance sheet. But it is JSW Ispat Special Products's earnings that will influence how the balance sheet holds up in the future. 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. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Considering the last year, JSW Ispat Special Products actually recorded a cash outflow, overall. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Our View

To be frank both JSW Ispat Special Products's interest cover and its track record of staying on top of its total liabilities make us rather uncomfortable with its debt levels. But at least its EBIT growth rate is not so bad. After considering the datapoints discussed, we think JSW Ispat Special Products has too much debt. While some investors love that sort of risky play, it's certainly not our cup of tea. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for JSW Ispat Special Products you should be aware of, and 1 of them is a bit unpleasant.

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. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.