David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies Kaveri Seed Company Limited (NSE:KSCL) makes use of debt. But the more important question is: how much risk is that debt creating?
When Is Debt A Problem?
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. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.
What Is Kaveri Seed's Debt?
The image below, which you can click on for greater detail, shows that at March 2019 Kaveri Seed had debt of ₹67.8m, up from ₹28.8m in one year. But it also has ₹4.82b in cash to offset that, meaning it has ₹4.75b net cash.
A Look At Kaveri Seed's Liabilities
According to the last reported balance sheet, Kaveri Seed had liabilities of ₹5.04b due within 12 months, and liabilities of ₹409.7m due beyond 12 months. Offsetting these obligations, it had cash of ₹4.82b as well as receivables valued at ₹846.2m due within 12 months. So it can boast ₹208.9m more liquid assets than total liabilities.
Having regard to Kaveri Seed's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the ₹29.4b company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Kaveri Seed has more cash than debt is arguably a good indication that it can manage its debt safely.
Also good is that Kaveri Seed grew its EBIT at 13% over the last year, further increasing its ability to manage debt. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Kaveri Seed can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.
But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While Kaveri Seed has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, Kaveri Seed produced sturdy free cash flow equating to 60% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.
While we empathize with investors who find debt concerning, you should keep in mind that Kaveri Seed has net cash of ₹4.7b, as well as more liquid assets than liabilities. So is Kaveri Seed's debt a risk? It doesn't seem so to us. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Kaveri Seed's earnings per share history for free.
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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If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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.