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 Technofab Engineering Limited (NSE:TECHNOFAB) does use debt in its business. But the real question is whether this debt is making the company risky.
What Risk Does Debt Bring?
Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.
What Is Technofab Engineering's Net Debt?
You can click the graphic below for the historical numbers, but it shows that as of March 2019 Technofab Engineering had ₹1.33b of debt, an increase on ₹1.06b, over one year. However, it does have ₹745.5m in cash offsetting this, leading to net debt of about ₹580.6m.
A Look At Technofab Engineering's Liabilities
We can see from the most recent balance sheet that Technofab Engineering had liabilities of ₹3.13b falling due within a year, and liabilities of ₹744.6m due beyond that. Offsetting this, it had ₹745.5m in cash and ₹3.99b in receivables that were due within 12 months. So it can boast ₹866.6m more liquid assets than total liabilities.
This surplus strongly suggests that Technofab Engineering has a rock-solid balance sheet (and the debt is of no concern whatsoever). With this in mind one could posit that its balance sheet is as strong as beautiful a rare rhino. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Technofab Engineering will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Over 12 months, Technofab Engineering saw its revenue drop to ₹3.7b, which is a fall of 15%. We would much prefer see growth.
While Technofab Engineering's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost a very considerable ₹130m at the EBIT level. Having said that, the balance sheet has plenty of liquid assets for now. That should give the business time to grow its cashflow. While the stock is probably a bit risky, there may be an opportunity if the business itself improves, allowing the company to stage a recovery. For riskier companies like Technofab Engineering I always like to keep an eye on the long term profit and revenue trends. Fortunately, you can click to see our interactive graph of its profit, revenue, and operating cashflow.
When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.
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