Naftna Industrija Srbije a.d (BELEX:NIIS) Has A Pretty Healthy Balance Sheet

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 note that Naftna Industrija Srbije a.d. (BELEX:NIIS) does have debt on its balance sheet. But is this debt a concern to shareholders?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

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What Is Naftna Industrija Srbije a.d's Net Debt?

The image below, which you can click on for greater detail, shows that Naftna Industrija Srbije a.d had debt of дин76.2b at the end of June 2022, a reduction from дин82.0b over a year. However, because it has a cash reserve of дин38.1b, its net debt is less, at about дин38.1b.

A Look At Naftna Industrija Srbije a.d's Liabilities

According to the last reported balance sheet, Naftna Industrija Srbije a.d had liabilities of дин88.4b due within 12 months, and liabilities of дин80.8b due beyond 12 months. On the other hand, it had cash of дин38.1b and дин40.8b worth of receivables due within a year. So its liabilities total дин90.3b more than the combination of its cash and short-term receivables.

This deficit is considerable relative to its market capitalization of дин105.8b, so it does suggest shareholders should keep an eye on Naftna Industrija Srbije a.d's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.

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.

Naftna Industrija Srbije a.d's net debt is only 0.40 times its EBITDA. And its EBIT easily covers its interest expense, being 58.8 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Even more impressive was the fact that Naftna Industrija Srbije a.d grew its EBIT by 533% over twelve months. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Naftna Industrija Srbije a.d 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 we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, Naftna Industrija Srbije a.d produced sturdy free cash flow equating to 58% 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.

Our View

Happily, Naftna Industrija Srbije a.d's impressive interest cover implies it has the upper hand on its debt. But truth be told we feel its level of total liabilities does undermine this impression a bit. Looking at all the aforementioned factors together, it strikes us that Naftna Industrija Srbije a.d can handle its debt fairly comfortably. Of course, while this leverage can enhance returns on equity, it does bring more risk, so it's worth keeping an eye on this one. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Naftna Industrija Srbije a.d is showing 1 warning sign in our investment analysis , you should know about...

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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.