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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. As with many other companies Emmbi Industries Limited (NSE:EMMBI) makes use of debt. But the real question is whether this debt is making the company risky.
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. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.
See our latest analysis for Emmbi Industries
What Is Emmbi Industries's Debt?
You can click the graphic below for the historical numbers, but it shows that as of March 2019 Emmbi Industries had ₹1.07b of debt, an increase on ₹968.1m, over one year. However, it also had ₹37.7m in cash, and so its net debt is ₹1.03b.
How Healthy Is Emmbi Industries's Balance Sheet?
We can see from the most recent balance sheet that Emmbi Industries had liabilities of ₹985.0m falling due within a year, and liabilities of ₹591.1m due beyond that. Offsetting these obligations, it had cash of ₹37.7m as well as receivables valued at ₹451.6m due within 12 months. So it has liabilities totalling ₹1.09b more than its cash and near-term receivables, combined.
Emmbi Industries has a market capitalization of ₹2.34b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. 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.
Emmbi Industries's debt is 2.6 times its EBITDA, and its EBIT cover its interest expense 3.2 times over. This suggests that while the debt levels are significant, we'd stop short of calling them problematic. We note that Emmbi Industries grew its EBIT by 29% in the last year, and that should make it easier to pay down debt, going forward. 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 Emmbi Industries'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.