Is Greaves Cotton (NSE:GREAVESCOT) A Risky Investment?

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.' 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 Greaves Cotton Limited (NSE:GREAVESCOT) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Greaves Cotton

How Much Debt Does Greaves Cotton Carry?

You can click the graphic below for the historical numbers, but it shows that Greaves Cotton had ₹839.5m of debt in September 2024, down from ₹876.0m, one year before. However, it does have ₹3.60b in cash offsetting this, leading to net cash of ₹2.76b.

A Look At Greaves Cotton's Liabilities

According to the last reported balance sheet, Greaves Cotton had liabilities of ₹7.84b due within 12 months, and liabilities of ₹965.5m due beyond 12 months. Offsetting these obligations, it had cash of ₹3.60b as well as receivables valued at ₹2.57b due within 12 months. So it has liabilities totalling ₹2.64b more than its cash and near-term receivables, combined.

Given Greaves Cotton has a market capitalization of ₹53.2b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. While it does have liabilities worth noting, Greaves Cotton also has more cash than debt, so we're pretty confident it can manage its debt safely.

It is just as well that Greaves Cotton's load is not too heavy, because its EBIT was down 84% over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Greaves Cotton's ability to maintain a healthy balance sheet going forward. 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. Greaves Cotton 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. Over the last three years, Greaves Cotton saw substantial negative free cash flow, in total. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Greaves Cotton has ₹2.76b in net cash. So while Greaves Cotton 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. For instance, we've identified 3 warning signs for Greaves Cotton (2 don't sit too well with us) 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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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.