Health Check: How Prudently Does Bharat Heavy Electricals (NSE:BHEL) Use Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We note that Bharat Heavy Electricals Limited (NSE:BHEL) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Bharat Heavy Electricals

How Much Debt Does Bharat Heavy Electricals Carry?

As you can see below, Bharat Heavy Electricals had ₹49.9b of debt, at September 2021, which is about the same as the year before. You can click the chart for greater detail. But it also has ₹63.3b in cash to offset that, meaning it has ₹13.4b net cash.

How Strong Is Bharat Heavy Electricals' Balance Sheet?

We can see from the most recent balance sheet that Bharat Heavy Electricals had liabilities of ₹198.0b falling due within a year, and liabilities of ₹92.2b due beyond that. Offsetting this, it had ₹63.3b in cash and ₹42.8b in receivables that were due within 12 months. So its liabilities total ₹184.1b more than the combination of its cash and short-term receivables.

When you consider that this deficiency exceeds the company's ₹167.7b market capitalization, you might well be inclined to review the balance sheet intently. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. Given that Bharat Heavy Electricals has more cash than debt, we're pretty confident it can handle its debt, despite the fact that it has a lot of liabilities in total. 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 Bharat Heavy Electricals 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.

Over 12 months, Bharat Heavy Electricals reported revenue of ₹203b, which is a gain of 34%, although it did not report any earnings before interest and tax. Shareholders probably have their fingers crossed that it can grow its way to profits.

So How Risky Is Bharat Heavy Electricals?

Although Bharat Heavy Electricals had an earnings before interest and tax (EBIT) loss over the last twelve months, it generated positive free cash flow of ₹594m. So although it is loss-making, it doesn't seem to have too much near-term balance sheet risk, keeping in mind the net cash. One positive was the revenue growth of 34% over the last year. But we genuinely do think the balance sheet is a risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 2 warning signs for Bharat Heavy Electricals (1 makes us a bit uncomfortable!) that you should be aware of before investing here.

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.