Is Techno Electric & Engineering (NSE:TECHNOE) A Risky Investment?

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. Importantly, Techno Electric & Engineering Company Limited (NSE:TECHNOE) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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.

View our latest analysis for Techno Electric & Engineering

How Much Debt Does Techno Electric & Engineering Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Techno Electric & Engineering had ₹459.0m of debt, an increase on ₹297.7m, over one year. But on the other hand it also has ₹8.21b in cash, leading to a ₹7.75b net cash position.

A Look At Techno Electric & Engineering's Liabilities

The latest balance sheet data shows that Techno Electric & Engineering had liabilities of ₹4.58b due within a year, and liabilities of ₹1.48b falling due after that. Offsetting this, it had ₹8.21b in cash and ₹5.96b in receivables that were due within 12 months. So it actually has ₹8.12b more liquid assets than total liabilities.

It's good to see that Techno Electric & Engineering has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Techno Electric & Engineering has more cash than debt is arguably a good indication that it can manage its debt safely.

The modesty of its debt load may become crucial for Techno Electric & Engineering if management cannot prevent a repeat of the 39% cut to EBIT over the last year. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. 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 Techno Electric & Engineering 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Techno Electric & Engineering 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, Techno Electric & Engineering produced sturdy free cash flow equating to 66% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Techno Electric & Engineering has net cash of ₹7.75b, as well as more liquid assets than liabilities. The cherry on top was that in converted 66% of that EBIT to free cash flow, bringing in ₹825m. So we don't have any problem with Techno Electric & Engineering's use of debt. 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 example, we've discovered 2 warning signs for Techno Electric & Engineering that you should be aware of before investing here.

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. 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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