These 4 Measures Indicate That Jaypee Infratech (NSE:JPINFRATEC) Is Using Debt Extensively

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. We can see that Jaypee Infratech Limited (NSE:JPINFRATEC) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

Check out our latest analysis for Jaypee Infratech

What Is Jaypee Infratech's Net Debt?

As you can see below, Jaypee Infratech had ₹71.6b of debt at March 2019, down from ₹90.2b a year prior. And it doesn't have much cash, so its net debt is about the same.

NSEI:JPINFRATEC Historical Debt, August 21st 2019
NSEI:JPINFRATEC Historical Debt, August 21st 2019

How Strong Is Jaypee Infratech's Balance Sheet?

We can see from the most recent balance sheet that Jaypee Infratech had liabilities of ₹166.9b falling due within a year, and liabilities of ₹73.4b due beyond that. On the other hand, it had cash of ₹1.32b and ₹5.29b worth of receivables due within a year. So it has liabilities totalling ₹233.7b more than its cash and near-term receivables, combined.

This deficit casts a shadow over the ₹1.72b company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt At the end of the day, Jaypee Infratech would probably need a major re-capitalization if its creditors were to demand repayment.

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.

Jaypee Infratech shareholders face the double whammy of a high net debt to EBITDA ratio (31.4), and fairly weak interest coverage, since EBIT is just 0.087 times the interest expense. The debt burden here is substantial. One redeeming factor for Jaypee Infratech is that it turned last year's EBIT loss into a gain of ₹1.4b, over the last twelve months. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Jaypee Infratech's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. During the last year, Jaypee Infratech generated free cash flow amounting to a very robust 93% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Our View

On the face of it, Jaypee Infratech's interest cover left us tentative about the stock, and its level of total liabilities was no more enticing than the one empty restaurant on the busiest night of the year. But at least it's pretty decent at converting EBIT to free cash flow; that's encouraging. We're quite clear that we consider Jaypee Infratech to be really rather risky, as a result of its balance sheet health. So we're almost as wary of this stock as a hungry kitten is about falling into its owner's fish pond: once bitten, twice shy, as they say. While Jaypee Infratech didn't make a statutory profit in the last year, its positive EBIT suggests that profitability might not be far away.Click here to see if its earnings are heading in the right direction, over the medium term.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material.

If you spot an error that warrants correction, please contact the editor at editorial-team@simplywallst.com. This article by Simply Wall St is general in nature. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. Simply Wall St has no position in the stocks mentioned. Thank you for reading.