These 4 Measures Indicate That Kingfa Science & Technology (India) (NSE:KINGFA) Is Using Debt Extensively

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. We note that Kingfa Science & Technology (India) Limited (NSE:KINGFA) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, plenty of companies use debt to fund growth, without any negative consequences. 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 Kingfa Science & Technology (India)

How Much Debt Does Kingfa Science & Technology (India) Carry?

As you can see below, at the end of September 2020, Kingfa Science & Technology (India) had ₹471.5m of debt, up from ₹169.6m a year ago. Click the image for more detail. However, it also had ₹429.3m in cash, and so its net debt is ₹42.2m.

A Look At Kingfa Science & Technology (India)'s Liabilities

The latest balance sheet data shows that Kingfa Science & Technology (India) had liabilities of ₹2.27b due within a year, and liabilities of ₹310.7m falling due after that. Offsetting these obligations, it had cash of ₹429.3m as well as receivables valued at ₹1.73b due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹427.8m.

Given Kingfa Science & Technology (India) has a market capitalization of ₹6.52b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. But either way, Kingfa Science & Technology (India) has virtually no net debt, so it's fair to say it does not have a heavy debt load!

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.

Kingfa Science & Technology (India) has a low net debt to EBITDA ratio of only 0.13. And its EBIT covers its interest expense a whopping 83.6 times over. So we're pretty relaxed about its super-conservative use of debt. In fact Kingfa Science & Technology (India)'s saving grace is its low debt levels, because its EBIT has tanked 46% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Kingfa Science & Technology (India) 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the last three years, Kingfa Science & Technology (India) saw substantial negative free cash flow, in total. 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

We feel some trepidation about Kingfa Science & Technology (India)'s difficulty EBIT growth rate, but we've got positives to focus on, too. To wit both its interest cover and net debt to EBITDA were encouraging signs. Taking the abovementioned factors together we do think Kingfa Science & Technology (India)'s debt poses some risks to the business. While that debt can boost returns, we think the company has enough leverage now. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Consider for instance, the ever-present spectre of investment risk. We've identified 2 warning signs with Kingfa Science & Technology (India) , and understanding them should be part of your investment process.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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