Does Hindustan Oil Exploration (NSE:HINDOILEXP) Have A Healthy Balance Sheet?

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. Importantly, Hindustan Oil Exploration Company Limited (NSE:HINDOILEXP) does carry debt. But the real question is whether this debt is making the company risky.

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. 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, plenty of companies use debt to fund growth, without any negative consequences. 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 Hindustan Oil Exploration

What Is Hindustan Oil Exploration's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2020 Hindustan Oil Exploration had debt of ₹703.2m, up from ₹121.6m in one year. However, its balance sheet shows it holds ₹1.44b in cash, so it actually has ₹740.9m net cash.

A Look At Hindustan Oil Exploration's Liabilities

Zooming in on the latest balance sheet data, we can see that Hindustan Oil Exploration had liabilities of ₹1.52b due within 12 months and liabilities of ₹1.53b due beyond that. Offsetting these obligations, it had cash of ₹1.44b as well as receivables valued at ₹373.9m due within 12 months. So it has liabilities totalling ₹1.23b more than its cash and near-term receivables, combined.

Of course, Hindustan Oil Exploration has a market capitalization of ₹13.8b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Hindustan Oil Exploration also has more cash than debt, so we're pretty confident it can manage its debt safely.

The modesty of its debt load may become crucial for Hindustan Oil Exploration if management cannot prevent a repeat of the 80% 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 Hindustan Oil Exploration'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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Hindustan Oil Exploration 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, Hindustan Oil Exploration recorded negative free cash flow, in total. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Summing up

We could understand if investors are concerned about Hindustan Oil Exploration's liabilities, but we can be reassured by the fact it has has net cash of ₹740.9m. So while Hindustan Oil Exploration 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. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 3 warning signs we've spotted with Hindustan Oil Exploration .

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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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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