Is Cipla (NSE:CIPLA) A Risky Investment?

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 Cipla Limited (NSE:CIPLA) makes use of debt. But is this debt a concern to shareholders?

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. If things get really bad, the lenders can take control of the business. 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, 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Cipla

What Is Cipla's Debt?

You can click the graphic below for the historical numbers, but it shows that Cipla had ₹10.7b of debt in September 2022, down from ₹13.5b, one year before. But on the other hand it also has ₹41.9b in cash, leading to a ₹31.2b net cash position.

How Strong Is Cipla's Balance Sheet?

According to the last reported balance sheet, Cipla had liabilities of ₹53.1b due within 12 months, and liabilities of ₹5.84b due beyond 12 months. Offsetting these obligations, it had cash of ₹41.9b as well as receivables valued at ₹39.7b due within 12 months. So it actually has ₹22.7b more liquid assets than total liabilities.

This short term liquidity is a sign that Cipla could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Cipla has more cash than debt is arguably a good indication that it can manage its debt safely.

On the other hand, Cipla saw its EBIT drop by 2.3% in the last twelve months. That sort of decline, if sustained, will obviously make debt harder to handle. 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 Cipla'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Cipla has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the most recent three years, Cipla recorded free cash flow worth 72% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Cipla has net cash of ₹31.2b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of ₹20b, being 72% of its EBIT. So is Cipla's debt a risk? It doesn't seem so to us. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Cipla's earnings per share history for free.

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.

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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.