Is Koncar - Elektroindustrija d.d (ZGSE:KOEI) Using Too Much Debt?

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 can see that Koncar - Elektroindustrija d.d. (ZGSE:KOEI) does use debt in its business. 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. If things get really bad, the lenders can take control of the business. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Koncar - Elektroindustrija d.d

What Is Koncar - Elektroindustrija d.d's Debt?

As you can see below, Koncar - Elektroindustrija d.d had Kn222.6m of debt at March 2021, down from Kn313.8m a year prior. However, its balance sheet shows it holds Kn783.8m in cash, so it actually has Kn561.2m net cash.

A Look At Koncar - Elektroindustrija d.d's Liabilities

Zooming in on the latest balance sheet data, we can see that Koncar - Elektroindustrija d.d had liabilities of Kn1.27b due within 12 months and liabilities of Kn170.9m due beyond that. Offsetting these obligations, it had cash of Kn783.8m as well as receivables valued at Kn954.9m due within 12 months. So it actually has Kn298.5m more liquid assets than total liabilities.

This excess liquidity suggests that Koncar - Elektroindustrija d.d is taking a careful approach to debt. Due to its strong net asset position, it is not likely to face issues with its lenders. Succinctly put, Koncar - Elektroindustrija d.d boasts net cash, so it's fair to say it does not have a heavy debt load!

In addition to that, we're happy to report that Koncar - Elektroindustrija d.d has boosted its EBIT by 67%, thus reducing the spectre of future debt repayments. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Koncar - Elektroindustrija d.d 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Koncar - Elektroindustrija d.d 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. Considering the last three years, Koncar - Elektroindustrija d.d actually recorded a cash outflow, overall. Debt is far more risky for companies with unreliable free cash flow, so shareholders should be hoping that the past expenditure will produce free cash flow in the future.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Koncar - Elektroindustrija d.d has net cash of Kn561.2m, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 67% over the last year. So we don't think Koncar - Elektroindustrija d.d's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 1 warning sign for Koncar - Elektroindustrija d.d you should be aware of.

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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