Is Orient Paper & Industries (NSE:ORIENTPPR) Using Debt In A Risky Way?

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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Orient Paper & Industries Limited (NSE:ORIENTPPR) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. If things get really bad, the lenders can take control of the business. 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, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Orient Paper & Industries

What Is Orient Paper & Industries's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2020 Orient Paper & Industries had debt of ₹599.2m, up from ₹231.9m in one year. However, because it has a cash reserve of ₹30.0m, its net debt is less, at about ₹569.2m.

How Strong Is Orient Paper & Industries's Balance Sheet?

According to the last reported balance sheet, Orient Paper & Industries had liabilities of ₹2.31b due within 12 months, and liabilities of ₹2.50b due beyond 12 months. Offsetting these obligations, it had cash of ₹30.0m as well as receivables valued at ₹342.9m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹4.44b.

Given this deficit is actually higher than the company's market capitalization of ₹4.03b, we think shareholders really should watch Orient Paper & Industries's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Orient Paper & Industries will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Orient Paper & Industries had a loss before interest and tax, and actually shrunk its revenue by 33%, to ₹4.7b. That makes us nervous, to say the least.

Caveat Emptor

While Orient Paper & Industries's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Its EBIT loss was a whopping ₹507m. Considering that alongside the liabilities mentioned above make us nervous about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it burned through ₹144m in negative free cash flow over the last year. So suffice it to say we consider the stock to be risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for Orient Paper & Industries you should be aware of.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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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