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.' 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, Tirupati Forge Limited (NSE:TIRUPATIFL) does carry debt. But the real question is whether this debt is making the company risky.
Why Does Debt Bring Risk?
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 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. The first step when considering a company's debt levels is to consider its cash and debt together.
See our latest analysis for Tirupati Forge
What Is Tirupati Forge's Net Debt?
As you can see below, at the end of March 2019, Tirupati Forge had ₹42.1m of debt, up from ₹3.90m a year ago. Click the image for more detail. However, because it has a cash reserve of ₹1.20m, its net debt is less, at about ₹40.9m.
How Healthy Is Tirupati Forge's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Tirupati Forge had liabilities of ₹50.5m due within 12 months and liabilities of ₹25.7m due beyond that. On the other hand, it had cash of ₹1.20m and ₹72.3m worth of receivables due within a year. So it has liabilities totalling ₹2.70m more than its cash and near-term receivables, combined.
This state of affairs indicates that Tirupati Forge's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the ₹259.5m company is struggling for cash, we still think it's worth monitoring its balance sheet.
We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).