We Think Aurobindo Pharma (NSE:AUROPHARMA) Can Stay On Top Of Its Debt

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that Aurobindo Pharma Limited (NSE:AUROPHARMA) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. 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. 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 Aurobindo Pharma

What Is Aurobindo Pharma's Net Debt?

As you can see below, Aurobindo Pharma had ₹23.7b of debt at March 2022, down from ₹49.7b a year prior. However, it does have ₹45.7b in cash offsetting this, leading to net cash of ₹22.0b.

A Look At Aurobindo Pharma's Liabilities

According to the last reported balance sheet, Aurobindo Pharma had liabilities of ₹81.6b due within 12 months, and liabilities of ₹11.9b due beyond 12 months. On the other hand, it had cash of ₹45.7b and ₹40.2b worth of receivables due within a year. So its liabilities total ₹7.54b more than the combination of its cash and short-term receivables.

Given Aurobindo Pharma has a market capitalization of ₹302.2b, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Aurobindo Pharma also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact Aurobindo Pharma's saving grace is its low debt levels, because its EBIT has tanked 27% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Aurobindo Pharma can strengthen its balance sheet over time. 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. Aurobindo Pharma 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. During the last three years, Aurobindo Pharma produced sturdy free cash flow equating to 58% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Aurobindo Pharma has ₹22.0b in net cash. So we are not troubled with Aurobindo Pharma's debt use. 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. Case in point: We've spotted 3 warning signs for Aurobindo Pharma 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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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.