Is Maharashtra Seamless (NSE:MAHSEAMLES) Using Too Much Debt?

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Maharashtra Seamless Limited (NSE:MAHSEAMLES) makes use of debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Maharashtra Seamless

What Is Maharashtra Seamless's Net Debt?

As you can see below, Maharashtra Seamless had ₹7.95b of debt at September 2021, down from ₹10.6b a year prior. However, it also had ₹1.80b in cash, and so its net debt is ₹6.14b.

How Healthy Is Maharashtra Seamless' Balance Sheet?

We can see from the most recent balance sheet that Maharashtra Seamless had liabilities of ₹5.53b falling due within a year, and liabilities of ₹9.67b due beyond that. Offsetting these obligations, it had cash of ₹1.80b as well as receivables valued at ₹7.16b due within 12 months. So it has liabilities totalling ₹6.24b more than its cash and near-term receivables, combined.

Since publicly traded Maharashtra Seamless shares are worth a total of ₹35.7b, it seems unlikely that this level of liabilities would be a major threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse.

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.

Maharashtra Seamless's net debt is only 1.2 times its EBITDA. And its EBIT easily covers its interest expense, being 6k times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. The good news is that Maharashtra Seamless has increased its EBIT by 9.1% over twelve months, which should ease any concerns about debt repayment. When analysing debt levels, the balance sheet is the obvious place to start. But it is Maharashtra Seamless'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 the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Maharashtra Seamless burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

Maharashtra Seamless's conversion of EBIT to free cash flow was a real negative on this analysis, although the other factors we considered were considerably better. There's no doubt that its ability to to cover its interest expense with its EBIT is pretty flash. Looking at all this data makes us feel a little cautious about Maharashtra Seamless's debt levels. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more risky. 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. To that end, you should learn about the 4 warning signs we've spotted with Maharashtra Seamless (including 1 which doesn't sit too well with us) .

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.

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.

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.