Dr. Reddy's Laboratories (NSE:DRREDDY) Seems To Use Debt Rather Sparingly

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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, Dr. Reddy's Laboratories Limited (NSE:DRREDDY) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. 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. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Dr. Reddy's Laboratories

What Is Dr. Reddy's Laboratories's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of March 2024 Dr. Reddy's Laboratories had ₹16.5b of debt, an increase on ₹11.2b, over one year. But on the other hand it also has ₹81.5b in cash, leading to a ₹64.9b net cash position.

A Look At Dr. Reddy's Laboratories' Liabilities

Zooming in on the latest balance sheet data, we can see that Dr. Reddy's Laboratories had liabilities of ₹96.0b due within 12 months and liabilities of ₹10.9b due beyond that. Offsetting this, it had ₹81.5b in cash and ₹83.2b in receivables that were due within 12 months. So it actually has ₹57.7b more liquid assets than total liabilities.

This short term liquidity is a sign that Dr. Reddy's Laboratories could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, Dr. Reddy's Laboratories boasts net cash, so it's fair to say it does not have a heavy debt load!

Also positive, Dr. Reddy's Laboratories grew its EBIT by 22% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Dr. Reddy's Laboratories'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Dr. Reddy's Laboratories 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. In the last three years, Dr. Reddy's Laboratories's free cash flow amounted to 45% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Dr. Reddy's Laboratories has net cash of ₹64.9b, as well as more liquid assets than liabilities. And we liked the look of last year's 22% year-on-year EBIT growth. So we don't think Dr. Reddy's Laboratories's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 1 warning sign with Dr. Reddy's Laboratories , and understanding them should be part of your investment process.

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.

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