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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We can see that B&B Triplewall Containers Limited (NSE:BBTCL) does use debt in its business. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. When we examine debt levels, we first consider both cash and debt levels, together.
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What Is B&B Triplewall Containers's Debt?
The image below, which you can click on for greater detail, shows that at March 2019 B&B Triplewall Containers had debt of ₹560.0m, up from ₹469.1m in one year. And it doesn't have much cash, so its net debt is about the same.
How Strong Is B&B Triplewall Containers's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that B&B Triplewall Containers had liabilities of ₹422.4m due within 12 months and liabilities of ₹335.7m due beyond that. Offsetting this, it had ₹9.14m in cash and ₹299.5m in receivables that were due within 12 months. So its liabilities total ₹449.5m more than the combination of its cash and short-term receivables.
This deficit is considerable relative to its market capitalization of ₹635.8m, so it does suggest shareholders should keep an eye on B&B Triplewall Containers's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution.
In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.