GE Power India (NSE:GEPIL) Takes On Some Risk With Its Use Of Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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 can see that GE Power India Limited (NSE:GEPIL) does use debt in its business. But should shareholders be worried about its use of debt?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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.

See our latest analysis for GE Power India

How Much Debt Does GE Power India Carry?

As you can see below, at the end of September 2020, GE Power India had ₹2.16b of debt, up from none a year ago. Click the image for more detail. However, its balance sheet shows it holds ₹2.36b in cash, so it actually has ₹195.8m net cash.

How Strong Is GE Power India's Balance Sheet?

According to the last reported balance sheet, GE Power India had liabilities of ₹25.8b due within 12 months, and liabilities of ₹2.04b due beyond 12 months. On the other hand, it had cash of ₹2.36b and ₹17.9b worth of receivables due within a year. So it has liabilities totalling ₹7.60b more than its cash and near-term receivables, combined.

While this might seem like a lot, it is not so bad since GE Power India has a market capitalization of ₹19.9b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. While it does have liabilities worth noting, GE Power India also has more cash than debt, so we're pretty confident it can manage its debt safely.

On the other hand, GE Power India's EBIT dived 11%, over the last year. If that rate of decline in earnings continues, the company could find itself in a tight spot. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since GE Power 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. GE Power India 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, GE Power India burned a lot of cash. While that may be a result of expenditure for growth, it does make the debt far more risky.

Summing up

While GE Power India does have more liabilities than liquid assets, it also has net cash of ₹195.8m. So while GE Power India 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. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 3 warning signs for GE Power India (1 doesn't sit too well with us) you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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