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. 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. We can see that SORIL Infra Resources Limited (NSE:SORILINFRA) does use debt in its business. But the real question is whether this debt is making the company risky.
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. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.
View our latest analysis for SORIL Infra Resources
What Is SORIL Infra Resources's Net Debt?
As you can see below, at the end of March 2019, SORIL Infra Resources had ₹3.34b of debt, up from ₹3.13b a year ago. Click the image for more detail. However, it does have ₹1.02b in cash offsetting this, leading to net debt of about ₹2.32b.
How Strong Is SORIL Infra Resources's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that SORIL Infra Resources had liabilities of ₹3.84b due within 12 months and liabilities of ₹474.2m due beyond that. On the other hand, it had cash of ₹1.02b and ₹1.86b worth of receivables due within a year. So it has liabilities totalling ₹1.44b more than its cash and near-term receivables, combined.
While this might seem like a lot, it is not so bad since SORIL Infra Resources has a market capitalization of ₹4.16b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.
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.