Does Timken India (NSE:TIMKEN) Have A Healthy Balance Sheet?

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.' 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. Importantly, Timken India Limited (NSE:TIMKEN) 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, 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 examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Timken India

What Is Timken India's Debt?

The image below, which you can click on for greater detail, shows that Timken India had debt of ₹166.4m at the end of September 2020, a reduction from ₹271.5m over a year. However, its balance sheet shows it holds ₹1.28b in cash, so it actually has ₹1.12b net cash.

How Healthy Is Timken India's Balance Sheet?

The latest balance sheet data shows that Timken India had liabilities of ₹2.92b due within a year, and liabilities of ₹1.12b falling due after that. On the other hand, it had cash of ₹1.28b and ₹2.67b worth of receivables due within a year. So its liabilities total ₹89.3m more than the combination of its cash and short-term receivables.

Having regard to Timken India's size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the ₹93.8b company is short on cash, but still worth keeping an eye on the balance sheet. Despite its noteworthy liabilities, Timken India boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for Timken India if management cannot prevent a repeat of the 35% cut to EBIT 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 Timken India's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Timken India has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the most recent three years, Timken India recorded free cash flow worth 71% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Timken India has ₹1.12b in net cash. And it impressed us with free cash flow of ₹1.6b, being 71% of its EBIT. So we don't have any problem with Timken India'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 instance, we've identified 1 warning sign for Timken India that 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. 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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