Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. Importantly, Sterlite Technologies Limited (NSE:STRTECH) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt Dangerous?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
Check out our latest analysis for Sterlite Technologies
How Much Debt Does Sterlite Technologies Carry?
As you can see below, at the end of March 2019, Sterlite Technologies had ₹20.7b of debt, up from ₹11.9b a year ago. Click the image for more detail. However, it does have ₹3.50b in cash offsetting this, leading to net debt of about ₹17.2b.
How Healthy Is Sterlite Technologies's Balance Sheet?
We can see from the most recent balance sheet that Sterlite Technologies had liabilities of ₹41.4b falling due within a year, and liabilities of ₹10.6b due beyond that. On the other hand, it had cash of ₹3.50b and ₹24.5b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹24.0b.
While this might seem like a lot, it is not so bad since Sterlite Technologies has a market capitalization of ₹60.1b, and so it could probably strengthen its balance sheet by raising capital if it needed to. 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.