B.A.G. Films and Media (NSE:BAGFILMS) Has A Somewhat Strained Balance Sheet

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies B.A.G. Films and Media Limited (NSE:BAGFILMS) makes use of debt. But the more important question is: how much risk is that debt creating?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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 B.A.G. Films and Media

What Is B.A.G. Films and Media's Net Debt?

As you can see below, B.A.G. Films and Media had ₹1.37b of debt, at September 2021, which is about the same as the year before. You can click the chart for greater detail. However, it also had ₹69.5m in cash, and so its net debt is ₹1.30b.

How Healthy Is B.A.G. Films and Media's Balance Sheet?

The latest balance sheet data shows that B.A.G. Films and Media had liabilities of ₹1.49b due within a year, and liabilities of ₹462.3m falling due after that. Offsetting these obligations, it had cash of ₹69.5m as well as receivables valued at ₹1.28b due within 12 months. So its liabilities total ₹601.4m more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of ₹659.1m, so it does suggest shareholders should keep an eye on B.A.G. Films and Media's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Weak interest cover of 0.96 times and a disturbingly high net debt to EBITDA ratio of 7.5 hit our confidence in B.A.G. Films and Media like a one-two punch to the gut. The debt burden here is substantial. However, the silver lining was that B.A.G. Films and Media achieved a positive EBIT of ₹104m in the last twelve months, an improvement on the prior year's loss. When analysing debt levels, the balance sheet is the obvious place to start. But it is B.A.G. Films and Media'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Over the last year, B.A.G. Films and Media saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

On the face of it, B.A.G. Films and Media's interest cover left us tentative about the stock, and its conversion of EBIT to free cash flow was no more enticing than the one empty restaurant on the busiest night of the year. Having said that, its ability to grow its EBIT isn't such a worry. Overall, it seems to us that B.A.G. Films and Media's balance sheet is really quite a risk to the business. For this reason we're pretty cautious about the stock, and we think shareholders should keep a close eye on its liquidity. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 4 warning signs for B.A.G. Films and Media you should be aware of, and 3 of them are a bit concerning.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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.

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