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David Iben put it well when he said, ‘Volatility is not a risk we care about. What we care about is avoiding the 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. Importantly, J. B. Chemicals & Pharmaceuticals Limited (NSE:JBCHEPHARM) does carry debt. But is this debt a concern to shareholders?
Why Does Debt Bring Risk?
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. If things get really bad, the lenders can take control of the business. 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. When we think about a company’s use of debt, we first look at cash and debt together.
What Is J. B. Chemicals & Pharmaceuticals’s Debt?
As you can see below, J. B. Chemicals & Pharmaceuticals had ₹258.0m of debt at March 2019, down from ₹292.9m a year prior. But it also has ₹4.12b in cash to offset that, meaning it has ₹3.87b net cash.
How Healthy Is J. B. Chemicals & Pharmaceuticals’s Balance Sheet?
We can see from the most recent balance sheet that J. B. Chemicals & Pharmaceuticals had liabilities of ₹2.43b falling due within a year, and liabilities of ₹648.4m due beyond that. Offsetting this, it had ₹4.12b in cash and ₹3.11b in receivables that were due within 12 months. So it can boast ₹4.15b more liquid assets than total liabilities.
This surplus suggests that J. B. Chemicals & Pharmaceuticals has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Given that J. B. Chemicals & Pharmaceuticals has more cash than debt, we’re pretty confident it can manage its debt safely.
On top of that, J. B. Chemicals & Pharmaceuticals grew its EBIT by 51% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if J. B. Chemicals & Pharmaceuticals 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. While J. B. Chemicals & Pharmaceuticals 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. Looking at the most recent three years, J. B. Chemicals & Pharmaceuticals recorded free cash flow of 36% of its EBIT, which is weaker than we’d expect. That weak cash conversion makes it more difficult to handle indebtedness.
While it is always sensible to investigate a company’s debt, in this case J. B. Chemicals & Pharmaceuticals has ₹3.9b in net cash and a decent-looking balance sheet. And we liked the look of last year’s 51% year-on-year EBIT growth. So is J. B. Chemicals & Pharmaceuticals’s debt a risk? It doesn’t seem so to us. We’d be very excited to see if J. B. Chemicals & Pharmaceuticals insiders have been snapping up shares. If you are too, then click on this link right now to take a (free) peek at our list of reported insider transactions.
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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If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.