These 4 Measures Indicate That Shree Pushkar Chemicals & Fertilisers (NSE:SHREEPUSHK) Is Using Debt Extensively

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.' 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 Shree Pushkar Chemicals & Fertilisers Limited (NSE:SHREEPUSHK) makes use of debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Shree Pushkar Chemicals & Fertilisers

What Is Shree Pushkar Chemicals & Fertilisers's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Shree Pushkar Chemicals & Fertilisers had ₹407.9m of debt in September 2020, down from ₹603.2m, one year before. However, it also had ₹36.8m in cash, and so its net debt is ₹371.1m.

How Healthy Is Shree Pushkar Chemicals & Fertilisers's Balance Sheet?

We can see from the most recent balance sheet that Shree Pushkar Chemicals & Fertilisers had liabilities of ₹767.0m falling due within a year, and liabilities of ₹222.4m due beyond that. On the other hand, it had cash of ₹36.8m and ₹757.0m worth of receivables due within a year. So it has liabilities totalling ₹195.7m more than its cash and near-term receivables, combined.

Given Shree Pushkar Chemicals & Fertilisers has a market capitalization of ₹3.96b, it's hard to believe these liabilities pose much 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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Shree Pushkar Chemicals & Fertilisers has net debt of just 0.94 times EBITDA, suggesting it could ramp leverage without breaking a sweat. But the really cool thing is that it actually managed to receive more interest than it paid, over the last year. So there's no doubt this company can take on debt while staying cool as a cucumber. The modesty of its debt load may become crucial for Shree Pushkar Chemicals & Fertilisers if management cannot prevent a repeat of the 35% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Shree Pushkar Chemicals & Fertilisers 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, 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 that EBIT is backed by free cash flow. Over the last three years, Shree Pushkar Chemicals & Fertilisers reported free cash flow worth 17% 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

Shree Pushkar Chemicals & Fertilisers's EBIT growth rate and conversion of EBIT to free cash flow definitely weigh on it, in our esteem. But its interest cover tells a very different story, and suggests some resilience. Looking at all the angles mentioned above, it does seem to us that Shree Pushkar Chemicals & Fertilisers is a somewhat risky investment as a result of its debt. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. 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. Consider risks, for instance. Every company has them, and we've spotted 1 warning sign for Shree Pushkar Chemicals & Fertilisers you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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