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Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Kirloskar Oil Engines Limited (NSE:KIRLOSENG) does carry debt. But should shareholders be worried about its use of debt?
When Is Debt A Problem?
Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. 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. When we examine debt levels, we first consider both cash and debt levels, together.
Check out our latest analysis for Kirloskar Oil Engines
What Is Kirloskar Oil Engines's Net Debt?
As you can see below, Kirloskar Oil Engines had ₹898.1m of debt at March 2019, down from ₹1.42b a year prior. However, its balance sheet shows it holds ₹9.02b in cash, so it actually has ₹8.12b net cash.
How Healthy Is Kirloskar Oil Engines's Balance Sheet?
We can see from the most recent balance sheet that Kirloskar Oil Engines had liabilities of ₹7.31b falling due within a year, and liabilities of ₹1.75b due beyond that. Offsetting this, it had ₹9.02b in cash and ₹5.17b in receivables that were due within 12 months. So it can boast ₹5.13b more liquid assets than total liabilities.
This excess liquidity suggests that Kirloskar Oil Engines is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Kirloskar Oil Engines has more cash than debt is arguably a good indication that it can manage its debt safely.
On top of that, Kirloskar Oil Engines grew its EBIT by 60% over the last twelve months, and that growth will make it easier to handle its 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 Kirloskar Oil Engines 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.