Kingfisher (LON:KGF) Has A Somewhat Strained Balance Sheet

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.' 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 Kingfisher plc (LON:KGF) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt Dangerous?

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.

Check out our latest analysis for Kingfisher

What Is Kingfisher's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Kingfisher had UK£18.0m of debt in July 2022, down from UK£113.0m, one year before. However, it does have UK£496.0m in cash offsetting this, leading to net cash of UK£478.0m.

How Strong Is Kingfisher's Balance Sheet?

The latest balance sheet data shows that Kingfisher had liabilities of UK£3.29b due within a year, and liabilities of UK£2.45b falling due after that. Offsetting these obligations, it had cash of UK£496.0m as well as receivables valued at UK£401.0m due within 12 months. So it has liabilities totalling UK£4.85b more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of UK£5.15b. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. While it does have liabilities worth noting, Kingfisher also has more cash than debt, so we're pretty confident it can manage its debt safely.

In fact Kingfisher's saving grace is its low debt levels, because its EBIT has tanked 26% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 Kingfisher can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Kingfisher 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. During the last three years, Kingfisher generated free cash flow amounting to a very robust 90% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While Kingfisher does have more liabilities than liquid assets, it also has net cash of UK£478.0m. And it impressed us with free cash flow of UK£184m, being 90% of its EBIT. So while Kingfisher does not have a great balance sheet, it's certainly not too bad. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 2 warning signs with Kingfisher (at least 1 which is concerning) , 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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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.