Warren Buffett said: “Volatility is far from synonymous with risk. It’s natural to consider a company’s balance sheet when looking at its riskiness, as debt is often involved when a company fails. We can see that Dollar Industries Limited (NSE:DOLLAR) uses debt in its business. But the more important question is: what risk does this debt create?
When is debt dangerous?
Debt and other liabilities become risky for a business when it cannot easily meet those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company cannot meet its legal debt repayment obligations, shareholders could walk away with nothing. However, a more common (but still costly) event is when a company has to issue stock at bargain prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, the advantage of debt is that it often represents cheap capital, especially when it replaces dilution in a business with the ability to reinvest at high rates of return. When we think about a company’s use of debt, we first look at cash and debt together.
Check out our latest analysis for Dollar Industries
What is Dollar Industries net debt?
The image below, which you can click on for more details, shows that as of March 2022, Dollar Industries had a debt of ₹2.06 billion, up from ₹1.24 billion in a year. Net debt is about the same, since she doesn’t have a lot of cash.
A look at the liabilities of Dollar Industries
The latest balance sheet data shows that Dollar Industries had liabilities of ₹4.29 billion due within one year, and liabilities of ₹111.1 million falling due thereafter. On the other hand, it had cash of ₹5.13 million and ₹4.02 billion in receivables due within one year. It therefore has liabilities totaling ₹372.2 million more than its cash and short-term receivables, combined.
Considering the size of Dollar Industries, it looks like its cash is well balanced with its total liabilities. So while it’s hard to imagine the £25.9billion company struggling to find cash, we still think it’s worth keeping an eye on its balance sheet.
In order to assess a company’s debt relative to its earnings, we calculate its net debt divided by its earnings before interest, taxes, depreciation and amortization (EBITDA) and its earnings before interest and taxes (EBIT) divided by its expenses. interest (its interest coverage). In this way, we consider both the absolute amount of debt, as well as the interest rates paid on it.
Dollar Industries has a low net debt to EBITDA ratio of just 0.93. And its EBIT easily covers its interest charges, which is 21.1 times the size. One could therefore say that he is no more threatened by his debt than an elephant is by a mouse. On top of that, we are pleased to report that Dollar Industries increased its EBIT by 66%, reducing the specter of future debt repayments. When analyzing debt levels, the balance sheet is the obvious starting point. But you can’t look at debt in total isolation; since Dollar Industries will need revenue to repay this debt. So, if you want to know more about its earnings, it may be worth checking out this graph of its long-term trend.
Finally, a company can only repay its debts with cold hard cash, not with book profits. So the logical step is to look at what proportion of that EBIT is actual free cash flow. Over the past three years, Dollar Industries has generated free cash flow of 20% of EBIT, an uninspiring performance. This low level of cash conversion compromises its ability to manage and repay its debt.
Our point of view
Dollar Industries’ interest coverage suggests he can manage his debt as easily as Cristiano Ronaldo could score a goal against an Under-14 keeper. But, on a darker note, we are a bit concerned about its conversion of EBIT into free cash flow. Overall, we think Dollar Industries’ use of debt seems entirely reasonable and we are not concerned about that. Although debt carries risks, when used wisely, it can also generate a higher return on equity. The balance sheet is clearly the area to focus on when analyzing debt. However, not all investment risks reside on the balance sheet, far from it. We have identified 3 warning signs with Dollar Industries (at least 1, which is a little worrying), and understanding them should be part of your investment process.
If you are interested in investing in companies that can generate profits without the burden of debt, then check out this free list of growing companies that have net cash on the balance sheet.
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This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts only using unbiased methodology and our articles are not intended to be financial advice. It is not a recommendation to buy or sell stocks and does not take into account your objectives or financial situation. Our goal is to bring you targeted long-term analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price-sensitive companies or qualitative materials. Simply Wall St has no position in the stocks mentioned.