Here's Why Nectar Lifesciences (NSE:NECLIFE) Has A Meaningful Debt Burden

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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, Nectar Lifesciences Limited (NSE:NECLIFE) does carry debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Nectar Lifesciences

What Is Nectar Lifesciences's Net Debt?

As you can see below, Nectar Lifesciences had ₹6.36b of debt at March 2024, down from ₹7.54b a year prior. However, because it has a cash reserve of ₹203.0m, its net debt is less, at about ₹6.15b.

How Healthy Is Nectar Lifesciences' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Nectar Lifesciences had liabilities of ₹9.73b due within 12 months and liabilities of ₹1.49b due beyond that. Offsetting this, it had ₹203.0m in cash and ₹3.80b in receivables that were due within 12 months. So its liabilities total ₹7.21b more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of ₹7.22b, so it does suggest shareholders should keep an eye on Nectar Lifesciences' use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

While Nectar Lifesciences's debt to EBITDA ratio (4.0) suggests that it uses some debt, its interest cover is very weak, at 1.1, suggesting high leverage. So shareholders should probably be aware that interest expenses appear to have really impacted the business lately. However, the silver lining was that Nectar Lifesciences achieved a positive EBIT of ₹924m in the last twelve months, an improvement on the prior year's loss. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Nectar Lifesciences will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Over the last year, Nectar Lifesciences actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Nectar Lifesciences's interest cover and level of total liabilities definitely weigh on it, in our esteem. But its conversion of EBIT to free cash flow tells a very different story, and suggests some resilience. Taking the abovementioned factors together we do think Nectar Lifesciences's debt poses some risks to the business. So while that leverage does boost returns on equity, we wouldn't really want to see it increase from here. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Nectar Lifesciences (of which 2 are significant!) you should know about.

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.

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

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