The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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 note that Shreyans Industries Limited (NSE:SHREYANIND) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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 think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for Shreyans Industries

What Is Shreyans Industries's Debt?

The image below, which you can click on for greater detail, shows that Shreyans Industries had debt of ₹315.7m at the end of March 2019, a reduction from ₹461.9m over a year. But on the other hand it also has ₹431.8m in cash, leading to a ₹116.1m net cash position.

How Healthy Is Shreyans Industries's Balance Sheet?

The latest balance sheet data shows that Shreyans Industries had liabilities of ₹929.6m due within a year, and liabilities of ₹533.2m falling due after that. Offsetting these obligations, it had cash of ₹431.8m as well as receivables valued at ₹416.1m due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹614.9m.

While this might seem like a lot, it is not so bad since Shreyans Industries has a market capitalization of ₹1.68b, and so it could probably strengthen its balance sheet by raising capital if it needed to. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, Shreyans Industries also has more cash than debt, so we're pretty confident it can manage its debt safely.

In addition to that, we're happy to report that Shreyans Industries has boosted its EBIT by 35%, thus reducing the spectre of future debt repayments. When analysing debt levels, the balance sheet is the obvious place to start. But it is Shreyans Industries's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Shreyans Industries may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Looking at the most recent three years, Shreyans Industries recorded free cash flow of 40% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

Although Shreyans Industries's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of ₹116m. And it impressed us with its EBIT growth of 35% over the last year. So we are not troubled with Shreyans Industries's debt use. 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 Shreyans Industries'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.

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.