Zydus Lifesciences (NSE:ZYDUSLIFE) Could Easily Take On More Debt

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.' 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. We can see that Zydus Lifesciences Limited (NSE:ZYDUSLIFE) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. 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 Zydus Lifesciences

What Is Zydus Lifesciences's Debt?

You can click the graphic below for the historical numbers, but it shows that Zydus Lifesciences had ₹7.69b of debt in March 2024, down from ₹11.6b, one year before. However, its balance sheet shows it holds ₹13.6b in cash, so it actually has ₹5.89b net cash.

How Healthy Is Zydus Lifesciences' Balance Sheet?

We can see from the most recent balance sheet that Zydus Lifesciences had liabilities of ₹53.4b falling due within a year, and liabilities of ₹18.4b due beyond that. On the other hand, it had cash of ₹13.6b and ₹52.2b worth of receivables due within a year. So its liabilities total ₹6.00b more than the combination of its cash and short-term receivables.

Having regard to Zydus Lifesciences' size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the ₹1.06t company is short on cash, but still worth keeping an eye on the balance sheet. Despite its noteworthy liabilities, Zydus Lifesciences boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Zydus Lifesciences has boosted its EBIT by 59%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Zydus Lifesciences'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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Zydus Lifesciences may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. During the last three years, Zydus Lifesciences produced sturdy free cash flow equating to 51% 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

We could understand if investors are concerned about Zydus Lifesciences's liabilities, but we can be reassured by the fact it has has net cash of ₹5.89b. And we liked the look of last year's 59% year-on-year EBIT growth. So we don't think Zydus Lifesciences's use of debt is risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 1 warning sign we've spotted with Zydus Lifesciences .

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.