Is Arvind Fashions (NSE:ARVINDFASN) Weighed On By Its Debt Load?

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that Arvind Fashions Limited (NSE:ARVINDFASN) does use debt in its business. But should shareholders be worried about its use of debt?

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. If things get really bad, the lenders can take control of the business. 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, 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 Arvind Fashions

What Is Arvind Fashions's Net Debt?

The image below, which you can click on for greater detail, shows that Arvind Fashions had debt of ₹9.03b at the end of March 2021, a reduction from ₹12.4b over a year. However, because it has a cash reserve of ₹771.8m, its net debt is less, at about ₹8.26b.

How Healthy Is Arvind Fashions' Balance Sheet?

The latest balance sheet data shows that Arvind Fashions had liabilities of ₹20.7b due within a year, and liabilities of ₹10.4b falling due after that. Offsetting these obligations, it had cash of ₹771.8m as well as receivables valued at ₹6.29b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹24.0b.

Given this deficit is actually higher than the company's market capitalization of ₹22.3b, we think shareholders really should watch Arvind Fashions's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. 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 Arvind Fashions'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.

In the last year Arvind Fashions had a loss before interest and tax, and actually shrunk its revenue by 43%, to ₹22b. To be frank that doesn't bode well.

Caveat Emptor

Not only did Arvind Fashions's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping ₹3.1b. When we look at that alongside the significant liabilities, we're not particularly confident about the company. We'd want to see some strong near-term improvements before getting too interested in the stock. Not least because it had negative free cash flow of ₹1.2b over the last twelve months. That means it's on the risky side of things. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 3 warning signs for Arvind Fashions 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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