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We Think Geekay Wires (NSE:GEEKAYWIRE) Is Taking Some Risk With Its Debt

Simply Wall St

Warren Buffett famously said, '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. Importantly, Geekay Wires Limited (NSE:GEEKAYWIRE) does carry debt. But the more important question is: how much risk is that debt creating?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Geekay Wires

What Is Geekay Wires's Net Debt?

As you can see below, Geekay Wires had ₹698.9m of debt, at March 2019, which is about the same the year before. You can click the chart for greater detail. On the flip side, it has ₹83.2m in cash leading to net debt of about ₹615.6m.

NSEI:GEEKAYWIRE Historical Debt, November 9th 2019

A Look At Geekay Wires's Liabilities

The latest balance sheet data shows that Geekay Wires had liabilities of ₹695.1m due within a year, and liabilities of ₹237.2m falling due after that. On the other hand, it had cash of ₹83.2m and ₹533.7m worth of receivables due within a year. So it has liabilities totalling ₹315.3m more than its cash and near-term receivables, combined.

This deficit is considerable relative to its market capitalization of ₹355.4m, so it does suggest shareholders should keep an eye on Geekay Wires's use of debt. This suggests shareholders would heavily diluted if the company needed to shore up its balance sheet in a hurry.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

While Geekay Wires's debt to EBITDA ratio (4.9) suggests that it uses some debt, its interest cover is very weak, at 1.5, suggesting high leverage. It seems clear that the cost of borrowing money is negatively impacting returns for shareholders, of late. The good news is that Geekay Wires grew its EBIT a smooth 55% over the last twelve months. Like the milk of human kindness that sort of growth increases resilience, making the company more capable of managing debt. There's no doubt that we learn most about debt from the balance sheet. But it is Geekay Wires'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 that EBIT is backed by free cash flow. During the last three years, Geekay Wires burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

To be frank both Geekay Wires's interest cover and its track record of converting EBIT to free cash flow make us rather uncomfortable with its debt levels. But at least it's pretty decent at growing its EBIT; that's encouraging. Overall, we think it's fair to say that Geekay Wires has enough debt that there are some real risks around the balance sheet. If all goes well, that should boost returns, but on the flip side, the risk of permanent capital loss is elevated by the debt. In light of our reservations about the company's balance sheet, it seems sensible to check if insiders have been selling shares recently.

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.

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.