These 4 Measures Indicate That B.L. Kashyap and Sons (NSE:BLKASHYAP) Is Using Debt Extensively

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. As with many other companies B.L. Kashyap and Sons Limited (NSE:BLKASHYAP) makes use of debt. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for B.L. Kashyap and Sons

How Much Debt Does B.L. Kashyap and Sons Carry?

The image below, which you can click on for greater detail, shows that B.L. Kashyap and Sons had debt of ₹4.22b at the end of March 2021, a reduction from ₹5.20b over a year. On the flip side, it has ₹264.7m in cash leading to net debt of about ₹3.96b.

How Strong Is B.L. Kashyap and Sons' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that B.L. Kashyap and Sons had liabilities of ₹8.07b due within 12 months and liabilities of ₹3.34b due beyond that. On the other hand, it had cash of ₹264.7m and ₹5.05b worth of receivables due within a year. So it has liabilities totalling ₹6.10b more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of ₹5.70b, we think shareholders really should watch B.L. Kashyap and Sons's debt levels, like a parent watching their child ride a bike for the first time. In the scenario where the company had to clean up its balance sheet quickly, it seems likely shareholders would suffer extensive dilution.

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). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Weak interest cover of 0.87 times and a disturbingly high net debt to EBITDA ratio of 6.3 hit our confidence in B.L. Kashyap and Sons like a one-two punch to the gut. This means we'd consider it to have a heavy debt load. However, it should be some comfort for shareholders to recall that B.L. Kashyap and Sons actually grew its EBIT by a hefty 464%, over the last 12 months. If it can keep walking that path it will be in a position to shed its debt with relative ease. When analysing debt levels, the balance sheet is the obvious place to start. But it is B.L. Kashyap and Sons's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, B.L. Kashyap and Sons saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

On the face of it, B.L. Kashyap and Sons's interest cover left us tentative about the stock, and its conversion of EBIT to free cash flow was no more enticing than the one empty restaurant on the busiest night of the year. But on the bright side, its EBIT growth rate is a good sign, and makes us more optimistic. We're quite clear that we consider B.L. Kashyap and Sons to be really rather risky, as a result of its balance sheet health. So we're almost as wary of this stock as a hungry kitten is about falling into its owner's fish pond: once bitten, twice shy, as they say. 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. To that end, you should learn about the 4 warning signs we've spotted with B.L. Kashyap and Sons (including 2 which are a bit concerning) .

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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