Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. As with many other companies Sumit Woods Limited (NSE:SUMIT) makes use of debt. But the more important question is: how much risk is that debt creating?
What Risk Does Debt Bring?
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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.
View our latest analysis for Sumit Woods
How Much Debt Does Sumit Woods Carry?
The image below, which you can click on for greater detail, shows that at September 2020 Sumit Woods had debt of ₹592.4m, up from ₹367.2m in one year. However, it does have ₹140.6m in cash offsetting this, leading to net debt of about ₹451.8m.
How Healthy Is Sumit Woods's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Sumit Woods had liabilities of ₹293.6m due within 12 months and liabilities of ₹586.8m due beyond that. Offsetting these obligations, it had cash of ₹140.6m as well as receivables valued at ₹211.6m due within 12 months. So its liabilities total ₹528.2m more than the combination of its cash and short-term receivables.
The deficiency here weighs heavily on the ₹336.5m company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Sumit Woods would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Sumit Woods 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.
In the last year Sumit Woods had a loss before interest and tax, and actually shrunk its revenue by 31%, to ₹359m. That makes us nervous, to say the least.
Caveat Emptor
While Sumit Woods's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. To be specific the EBIT loss came in at ₹4.8m. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it had negative free cash flow of ₹154m over the last twelve months. That means it's on the risky side of things. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 5 warning signs for Sumit Woods you should be aware of, and 3 of them shouldn't be ignored.
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. 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.
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About NSEI:SUMIT
Proven track record with mediocre balance sheet.
