We Think Pudumjee Paper Products (NSE:PDMJEPAPER) Can Manage Its Debt With Ease

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. Importantly, Pudumjee Paper Products Limited (NSE:PDMJEPAPER) does carry debt. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Pudumjee Paper Products

What Is Pudumjee Paper Products's Debt?

You can click the graphic below for the historical numbers, but it shows that Pudumjee Paper Products had ₹134.1m of debt in March 2021, down from ₹742.8m, one year before. However, its balance sheet shows it holds ₹1.14b in cash, so it actually has ₹1.00b net cash.

How Strong Is Pudumjee Paper Products' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Pudumjee Paper Products had liabilities of ₹1.37b due within 12 months and liabilities of ₹1.01b due beyond that. On the other hand, it had cash of ₹1.14b and ₹656.5m worth of receivables due within a year. So it has liabilities totalling ₹578.2m more than its cash and near-term receivables, combined.

Pudumjee Paper Products has a market capitalization of ₹2.72b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution. While it does have liabilities worth noting, Pudumjee Paper Products also has more cash than debt, so we're pretty confident it can manage its debt safely.

On top of that, Pudumjee Paper Products grew its EBIT by 33% over the last twelve months, and that growth will make it easier to handle its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Pudumjee Paper Products 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Pudumjee Paper Products may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Pudumjee Paper Products recorded free cash flow worth a fulsome 81% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing up

While Pudumjee Paper Products does have more liabilities than liquid assets, it also has net cash of ₹1.00b. The cherry on top was that in converted 81% of that EBIT to free cash flow, bringing in ₹824m. So is Pudumjee Paper Products's debt a risk? It doesn't seem so to us. 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 3 warning signs for Pudumjee Paper Products 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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