Here's Why Havells India (NSE:HAVELLS) Can Manage Its Debt Responsibly

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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 Havells India Limited (NSE:HAVELLS) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt Dangerous?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Havells India

What Is Havells India's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Havells India had ₹2.23b of debt in March 2023, down from ₹6.16b, one year before. But on the other hand it also has ₹20.5b in cash, leading to a ₹18.3b net cash position.

How Healthy Is Havells India's Balance Sheet?

The latest balance sheet data shows that Havells India had liabilities of ₹38.4b due within a year, and liabilities of ₹6.96b falling due after that. Offsetting these obligations, it had cash of ₹20.5b as well as receivables valued at ₹11.2b due within 12 months. So its liabilities total ₹13.6b more than the combination of its cash and short-term receivables.

This state of affairs indicates that Havells India's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the ₹858.9b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Havells India also has more cash than debt, so we're pretty confident it can manage its debt safely.

But the bad news is that Havells India has seen its EBIT plunge 11% in the last twelve months. 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 ultimately the future profitability of the business will decide if Havells India 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Havells 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. In the last three years, Havells India's free cash flow amounted to 45% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

We could understand if investors are concerned about Havells India's liabilities, but we can be reassured by the fact it has has net cash of ₹18.3b. So we don't have any problem with Havells India's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. We've identified 1 warning sign with Havells India , and understanding them should be part of your investment process.

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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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.