Alembic Pharmaceuticals (NSE:APLLTD) Seems To Use Debt Rather Sparingly

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, Alembic Pharmaceuticals Limited (NSE:APLLTD) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Alembic Pharmaceuticals

How Much Debt Does Alembic Pharmaceuticals Carry?

The image below, which you can click on for greater detail, shows that Alembic Pharmaceuticals had debt of ₹4.30b at the end of March 2024, a reduction from ₹6.36b over a year. However, it also had ₹1.27b in cash, and so its net debt is ₹3.04b.

How Strong Is Alembic Pharmaceuticals' Balance Sheet?

We can see from the most recent balance sheet that Alembic Pharmaceuticals had liabilities of ₹14.5b falling due within a year, and liabilities of ₹1.72b due beyond that. Offsetting these obligations, it had cash of ₹1.27b as well as receivables valued at ₹10.7b due within 12 months. So it has liabilities totalling ₹4.35b more than its cash and near-term receivables, combined.

Given Alembic Pharmaceuticals has a market capitalization of ₹181.4b, 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.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Alembic Pharmaceuticals has a low net debt to EBITDA ratio of only 0.33. And its EBIT easily covers its interest expense, being 11.8 times the size. So we're pretty relaxed about its super-conservative use of debt. On top of that, Alembic Pharmaceuticals grew its EBIT by 51% 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 it is future earnings, more than anything, that will determine Alembic Pharmaceuticals's ability to maintain a healthy balance sheet going forward. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. During the last three years, Alembic Pharmaceuticals produced sturdy free cash flow equating to 52% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Our View

The good news is that Alembic Pharmaceuticals's demonstrated ability to grow its EBIT delights us like a fluffy puppy does a toddler. And that's just the beginning of the good news since its interest cover is also very heartening. Zooming out, Alembic Pharmaceuticals seems to use debt quite reasonably; and that gets the nod from us. While debt does bring risk, when used wisely it can also bring a higher return on equity. 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. For instance, we've identified 1 warning sign for Alembic Pharmaceuticals that you should be aware of.

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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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.