These 4 Measures Indicate That Sun Pharmaceutical Industries (NSE:SUNPHARMA) Is Using Debt Reasonably Well

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Sun Pharmaceutical Industries Limited (NSE:SUNPHARMA) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Sun Pharmaceutical Industries

What Is Sun Pharmaceutical Industries's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2022 Sun Pharmaceutical Industries had debt of ₹38.1b, up from ₹17.8b in one year. But it also has ₹138.4b in cash to offset that, meaning it has ₹100.3b net cash.

A Look At Sun Pharmaceutical Industries' Liabilities

The latest balance sheet data shows that Sun Pharmaceutical Industries had liabilities of ₹167.0b due within a year, and liabilities of ₹13.9b falling due after that. Offsetting this, it had ₹138.4b in cash and ₹123.9b in receivables that were due within 12 months. So it actually has ₹81.3b more liquid assets than total liabilities.

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

Fortunately, Sun Pharmaceutical Industries grew its EBIT by 9.1% in the last year, making that debt load look even more manageable. There's no doubt that we learn most about debt from the balance sheet. But it is future earnings, more than anything, that will determine Sun Pharmaceutical Industries'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Sun Pharmaceutical Industries 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, Sun Pharmaceutical Industries produced sturdy free cash flow equating to 58% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing Up

While it is always sensible to investigate a company's debt, in this case Sun Pharmaceutical Industries has ₹100.3b in net cash and a decent-looking balance sheet. So we don't think Sun Pharmaceutical Industries's use of debt is risky. 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. For example - Sun Pharmaceutical Industries has 4 warning signs we think you should be aware of.

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.