Does Orchid Pharma (NSE:ORCHPHARMA) Have A Healthy Balance Sheet?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 can see that Orchid Pharma Limited (NSE:ORCHPHARMA) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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.

Check out our latest analysis for Orchid Pharma

How Much Debt Does Orchid Pharma Carry?

You can click the graphic below for the historical numbers, but it shows that Orchid Pharma had ₹1.47b of debt in September 2023, down from ₹3.39b, one year before. On the flip side, it has ₹503.6m in cash leading to net debt of about ₹961.7m.

How Healthy Is Orchid Pharma's Balance Sheet?

The latest balance sheet data shows that Orchid Pharma had liabilities of ₹2.39b due within a year, and liabilities of ₹1.45b falling due after that. Offsetting these obligations, it had cash of ₹503.6m as well as receivables valued at ₹1.93b due within 12 months. So it has liabilities totalling ₹1.41b more than its cash and near-term receivables, combined.

Of course, Orchid Pharma has a market capitalization of ₹41.2b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

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). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

While Orchid Pharma's low debt to EBITDA ratio of 0.97 suggests only modest use of debt, the fact that EBIT only covered the interest expense by 2.8 times last year does give us pause. So we'd recommend keeping a close eye on the impact financing costs are having on the business. We also note that Orchid Pharma improved its EBIT from a last year's loss to a positive ₹680m. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Orchid Pharma'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. 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, Orchid Pharma recorded free cash flow worth a fulsome 80% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Our View

Orchid Pharma's conversion of EBIT to free cash flow suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. But we must concede we find its interest cover has the opposite effect. Taking all this data into account, it seems to us that Orchid Pharma takes a pretty sensible approach to debt. While that brings some risk, it can also enhance returns for shareholders. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that Orchid Pharma is showing 3 warning signs in our investment analysis , 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.

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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.