Is Adani Ports and Special Economic Zone (NSE:ADANIPORTS) A Risky Investment?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 Adani Ports and Special Economic Zone Limited (NSE:ADANIPORTS) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Adani Ports and Special Economic Zone

What Is Adani Ports and Special Economic Zone's Net Debt?

The image below, which you can click on for greater detail, shows that Adani Ports and Special Economic Zone had debt of ₹440.6b at the end of September 2024, a reduction from ₹471.8b over a year. However, it does have ₹73.4b in cash offsetting this, leading to net debt of about ₹367.2b.

How Healthy Is Adani Ports and Special Economic Zone's Balance Sheet?

The latest balance sheet data shows that Adani Ports and Special Economic Zone had liabilities of ₹152.0b due within a year, and liabilities of ₹517.4b falling due after that. On the other hand, it had cash of ₹73.4b and ₹36.6b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹559.4b.

While this might seem like a lot, it is not so bad since Adani Ports and Special Economic Zone has a huge market capitalization of ₹2.69t, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Adani Ports and Special Economic Zone's net debt of 2.2 times EBITDA suggests graceful use of debt. And the fact that its trailing twelve months of EBIT was 7.9 times its interest expenses harmonizes with that theme. We note that Adani Ports and Special Economic Zone grew its EBIT by 24% in the last year, and that should make it easier to pay down debt, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Adani Ports and Special Economic Zone can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the most recent three years, Adani Ports and Special Economic Zone recorded free cash flow worth 55% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Our View

Happily, Adani Ports and Special Economic Zone's impressive EBIT growth rate implies it has the upper hand on its debt. And its interest cover is good too. It's also worth noting that Adani Ports and Special Economic Zone is in the Infrastructure industry, which is often considered to be quite defensive. Taking all this data into account, it seems to us that Adani Ports and Special Economic Zone takes a pretty sensible approach to debt. While that brings some risk, it can also enhance returns for shareholders. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. We've identified 2 warning signs with Adani Ports and Special Economic Zone , and understanding them should be part of your investment process.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.