Is Rossari Biotech (NSE:ROSSARI) Using Too Much Debt?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. We can see that Rossari Biotech Limited (NSE:ROSSARI) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Rossari Biotech

What Is Rossari Biotech's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Rossari Biotech had ₹1.06b of debt, an increase on ₹739.3m, over one year. On the flip side, it has ₹677.9m in cash leading to net debt of about ₹380.3m.

How Strong Is Rossari Biotech's Balance Sheet?

The latest balance sheet data shows that Rossari Biotech had liabilities of ₹4.25b due within a year, and liabilities of ₹996.9m falling due after that. Offsetting these obligations, it had cash of ₹677.9m as well as receivables valued at ₹4.26b due within 12 months. So its liabilities total ₹308.0m more than the combination of its cash and short-term receivables.

This state of affairs indicates that Rossari Biotech's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the ₹39.8b company is struggling for cash, we still think it's worth monitoring its balance sheet. Carrying virtually no net debt, Rossari Biotech has a very light debt load indeed.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

With net debt sitting at just 0.15 times EBITDA, Rossari Biotech is arguably pretty conservatively geared. And it boasts interest cover of 9.8 times, which is more than adequate. Another good sign is that Rossari Biotech has been able to increase its EBIT by 25% in twelve months, making it easier to pay down debt. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Rossari Biotech's ability to maintain a healthy balance sheet going forward. 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 business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, Rossari Biotech reported free cash flow worth 4.8% of its EBIT, which is really quite low. That limp level of cash conversion undermines its ability to manage and pay down debt.

Our View

Happily, Rossari Biotech's impressive net debt to EBITDA implies it has the upper hand on its debt. But we must concede we find its conversion of EBIT to free cash flow has the opposite effect. When we consider the range of factors above, it looks like Rossari Biotech is pretty sensible with its use of debt. That means they are taking on a bit more risk, in the hope of boosting shareholder returns. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example - Rossari Biotech has 1 warning sign we think you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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.