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Adani Ports and Special Economic Zone (NSE:ADANIPORTS) Seems To Use Debt Quite Sensibly
Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Adani Ports and Special Economic Zone Limited (NSE:ADANIPORTS) does use debt in its business. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.
Check out our latest analysis for Adani Ports and Special Economic Zone
How Much Debt Does Adani Ports and Special Economic Zone Carry?
As you can see below, at the end of March 2022, Adani Ports and Special Economic Zone had ₹457.5b of debt, up from ₹349.4b a year ago. Click the image for more detail. However, it also had ₹91.3b in cash, and so its net debt is ₹366.2b.
How Healthy Is Adani Ports and Special Economic Zone's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Adani Ports and Special Economic Zone had liabilities of ₹111.4b due within 12 months and liabilities of ₹451.0b due beyond that. On the other hand, it had cash of ₹91.3b and ₹44.5b worth of receivables due within a year. So its liabilities total ₹426.5b more than the combination of its cash and short-term receivables.
Adani Ports and Special Economic Zone has a very large market capitalization of ₹1.59t, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. However, it is still worthwhile taking a close look at its ability to pay off debt.
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.
Adani Ports and Special Economic Zone's net debt is 3.8 times its EBITDA, which is a significant but still reasonable amount of leverage. But its EBIT was about 11.2 times its interest expense, implying the company isn't really paying a high cost to maintain that level of debt. Even were the low cost to prove unsustainable, that is a good sign. Also relevant is that Adani Ports and Special Economic Zone has grown its EBIT by a very respectable 21% in the last year, thus enhancing its ability to pay down debt. 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 Adani Ports and Special Economic Zone'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 company can only pay off debt with cold hard cash, not accounting profits. So the logical step is to look at the proportion of that EBIT that is matched by actual free cash flow. During the last three years, Adani Ports and Special Economic Zone generated free cash flow amounting to a very robust 81% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.
Our View
Adani Ports and Special Economic Zone'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, on a more sombre note, we are a little concerned by its net debt to EBITDA. We would also note that Infrastructure industry companies like Adani Ports and Special Economic Zone commonly do use debt without problems. Looking at the bigger picture, we think Adani Ports and Special Economic Zone's use of debt seems quite reasonable and we're not concerned about it. After all, sensible leverage can boost returns on equity. 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. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for Adani Ports and Special Economic Zone 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.
About NSEI:ADANIPORTS
Adani Ports and Special Economic Zone
Operates and maintains port infrastructure facilities in India.
Solid track record with adequate balance sheet and pays a dividend.