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.' 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. Importantly, Grindwell Norton Limited (NSE:GRINDWELL) does carry debt. But the real question is whether this debt is making the company risky.
Why Does Debt Bring Risk?
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, 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.
What Is Grindwell Norton's Debt?
The image below, which you can click on for greater detail, shows that Grindwell Norton had debt of ₹121.5m at the end of March 2021, a reduction from ₹223.6m over a year. But it also has ₹6.51b in cash to offset that, meaning it has ₹6.39b net cash.
How Strong Is Grindwell Norton's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Grindwell Norton had liabilities of ₹4.36b due within 12 months and liabilities of ₹522.0m due beyond that. Offsetting these obligations, it had cash of ₹6.51b as well as receivables valued at ₹2.15b due within 12 months. So it actually has ₹3.78b more liquid assets than total liabilities.
This surplus suggests that Grindwell Norton has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Grindwell Norton boasts net cash, so it's fair to say it does not have a heavy debt load!
Better yet, Grindwell Norton grew its EBIT by 113% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. 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 Grindwell Norton can strengthen its balance sheet over time. 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. Grindwell Norton 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, Grindwell Norton recorded free cash flow worth a fulsome 86% of its EBIT, which is stronger than we'd usually expect. That puts it in a very strong position to pay down debt.
While we empathize with investors who find debt concerning, you should keep in mind that Grindwell Norton has net cash of ₹6.39b, as well as more liquid assets than liabilities. The cherry on top was that in converted 86% of that EBIT to free cash flow, bringing in ₹2.8b. So we don't think Grindwell Norton's use of debt is risky. 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. We've identified 1 warning sign with Grindwell Norton , and understanding them should be part of your investment process.
If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
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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.
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