Legendary fund manager Li Lu (whom Charlie Munger once backed) once said, “The greatest risk in investing is not price volatility, but whether you will suffer a permanent loss of capital. So it may be obvious that you need to take debt into account when thinking about the risk of a given stock, because too much debt can sink a business. Like many other companies Arvind Modes Limited (NSE:ARVINDFASN) uses debt. But the more important question is: what risk does this debt create?
When is debt dangerous?
Generally speaking, debt only becomes a real problem when a company cannot easily repay it, either by raising capital or with its own cash flow. If things go really bad, lenders can take over the business. However, a more frequent (but still costly) event is when a company has to issue shares at bargain prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, especially capital-intensive businesses. The first thing to do when considering how much debt a business has is to look at its cash and debt together.
Check out our latest analysis for Arvind Fashions
What is Arvind Fashions net debt?
The image below, which you can click on for more details, shows that Arvind Fashions had debt of ₹8.43 billion at the end of September 2021, a reduction from ₹10.6 billion year on year . However, he also had ₹4.25 billion in cash, and hence his net debt is ₹4.18 billion.
How healthy is Arvind Fashions’ balance sheet?
The latest balance sheet data shows that Arvind Fashions had liabilities of ₹20.7 billion due within a year, and liabilities of ₹7.41 billion falling due thereafter. In return, he had ₹4.25 billion in cash and ₹6.25 billion in receivables due within 12 months. Thus, its liabilities total ₹17.6 billion more than the combination of its cash and short-term receivables.
This shortfall is not that bad as Arvind Fashions is worth ₹41.7 billion and therefore could probably raise enough capital to shore up its balance sheet, should the need arise. But it is clear that it is essential to examine closely whether it can manage its debt without dilution. When analyzing debt levels, the balance sheet is the obvious starting point. But it is future earnings, more than anything, that will determine Arvind Fashions’ ability to maintain a healthy balance sheet in the future. So if you want to see what the professionals think, you might find this free analyst earnings forecast report interesting.
Last year, Arvind Fashions was not profitable at EBIT level but managed to increase its turnover by 15% to ₹29 billion. This rate of growth is a bit slow for our liking, but it takes all types to make a world.
Importantly, Arvind Fashions posted a loss in earnings before interest and taxes (EBIT) over the past year. To be precise, the EBIT loss amounted to ₹1.6 billion. Considering that alongside the liabilities mentioned above, this doesn’t give us much confidence that the company should use so much debt. So we think its balance sheet is a little stretched, but not beyond repair. For example, we would not like to see a repeat of last year’s ₹3.3 billion loss. In the meantime, we consider the stock to be very risky. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks reside on the balance sheet, far from it. For example – Arvind Fashions has 1 warning sign we think you should know.
If, after all that, you’re more interested in a fast-growing company with a strong balance sheet, check out our list of cash-neutral growth stocks right away.
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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.