Is Cipla (NSE:CIPLA) Using Too Much Debt?

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. We note that Cipla Limited (NSE:CIPLA) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Cipla

What Is Cipla's Net Debt?

The image below, which you can click on for greater detail, shows that Cipla had debt of ₹6.74b at the end of September 2023, a reduction from ₹8.53b over a year. But on the other hand it also has ₹48.9b in cash, leading to a ₹42.2b net cash position.

A Look At Cipla's Liabilities

We can see from the most recent balance sheet that Cipla had liabilities of ₹56.5b falling due within a year, and liabilities of ₹6.33b due beyond that. Offsetting these obligations, it had cash of ₹48.9b as well as receivables valued at ₹48.5b due within 12 months. So it can boast ₹34.6b more liquid assets than total liabilities.

This surplus suggests that Cipla has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that Cipla has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Cipla has boosted its EBIT by 42%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Cipla can strengthen its balance sheet over time. 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. 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. During the last three years, Cipla produced sturdy free cash flow equating to 63% 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 we empathize with investors who find debt concerning, you should keep in mind that Cipla has net cash of ₹42.2b, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 42% over the last year. So we don't think Cipla's use of debt is risky. Another factor that would give us confidence in Cipla would be if insiders have been buying shares: if you're conscious of that signal too, you can find out instantly by clicking this link.

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.