Does Varyoganneftegaz (MCX:VJGZ) Have A Healthy Balance Sheet?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, Public Joint Stock Company Varyoganneftegaz (MCX:VJGZ) does carry debt. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Varyoganneftegaz

What Is Varyoganneftegaz's Debt?

As you can see below, at the end of September 2020, Varyoganneftegaz had ₽1.72b of debt, up from none a year ago. Click the image for more detail. And it doesn't have much cash, so its net debt is about the same.

How Strong Is Varyoganneftegaz's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Varyoganneftegaz had liabilities of ₽6.94b due within 12 months and liabilities of ₽11.2b due beyond that. Offsetting these obligations, it had cash of ₽481.0k as well as receivables valued at ₽4.55b due within 12 months. So it has liabilities totalling ₽13.6b more than its cash and near-term receivables, combined.

When you consider that this deficiency exceeds the company's ₽11.0b market capitalization, you might well be inclined to review the balance sheet intently. 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.

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.

Varyoganneftegaz has a very low debt to EBITDA ratio of 0.25 so it is strange to see weak interest coverage, with last year's EBIT being only 0.11 times the interest expense. So one way or the other, it's clear the debt levels are not trivial. Importantly, Varyoganneftegaz's EBIT fell a jaw-dropping 99% in the last twelve months. If that earnings trend continues then paying off its debt will be about as easy as herding cats on to a roller coaster. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Varyoganneftegaz will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Happily for any shareholders, Varyoganneftegaz actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

To be frank both Varyoganneftegaz's interest cover and its track record of (not) growing its EBIT make us rather uncomfortable with its debt levels. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. Once we consider all the factors above, together, it seems to us that Varyoganneftegaz's debt is making it a bit risky. Some people like that sort of risk, but we're mindful of the potential pitfalls, so we'd probably prefer it carry less debt. 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 Varyoganneftegaz is showing 2 warning signs in our investment analysis , and 1 of those is a bit unpleasant...

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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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