These 4 Measures Indicate That K.C.P. Sugar and Industries (NSE:KCPSUGIND) Is Using Debt Extensively

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, K.C.P. Sugar and Industries Corporation Limited (NSE:KCPSUGIND) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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, 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. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for K.C.P. Sugar and Industries

How Much Debt Does K.C.P. Sugar and Industries Carry?

You can click the graphic below for the historical numbers, but it shows that K.C.P. Sugar and Industries had ₹1.68b of debt in September 2021, down from ₹1.88b, one year before. However, because it has a cash reserve of ₹886.4m, its net debt is less, at about ₹790.0m.

A Look At K.C.P. Sugar and Industries' Liabilities

We can see from the most recent balance sheet that K.C.P. Sugar and Industries had liabilities of ₹1.50b falling due within a year, and liabilities of ₹920.6m due beyond that. On the other hand, it had cash of ₹886.4m and ₹317.7m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹1.22b.

K.C.P. Sugar and Industries has a market capitalization of ₹2.91b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

K.C.P. Sugar and Industries shareholders face the double whammy of a high net debt to EBITDA ratio (9.2), and fairly weak interest coverage, since EBIT is just 0.16 times the interest expense. This means we'd consider it to have a heavy debt load. However, the silver lining was that K.C.P. Sugar and Industries achieved a positive EBIT of ₹28m in the last twelve months, an improvement on the prior year's loss. When analysing debt levels, the balance sheet is the obvious place to start. But it is K.C.P. Sugar and Industries'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. So it's worth checking how much of the earnings before interest and tax (EBIT) is backed by free cash flow. Happily for any shareholders, K.C.P. Sugar and Industries actually produced more free cash flow than EBIT over the last year. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Neither K.C.P. Sugar and Industries's ability to cover its interest expense with its EBIT nor its net debt to EBITDA gave us confidence in its ability to take on more debt. But its conversion of EBIT to free cash flow tells a very different story, and suggests some resilience. Looking at all the angles mentioned above, it does seem to us that K.C.P. Sugar and Industries is a somewhat risky investment as a result of its debt. Not all risk is bad, as it can boost share price returns if it pays off, but this debt risk is worth keeping in mind. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. These risks can be hard to spot. Every company has them, and we've spotted 3 warning signs for K.C.P. Sugar and Industries (of which 1 makes us a bit uncomfortable!) you should know about.

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.