Here's Why Peria Karamalai Tea and Produce (NSE:PKTEA) Can Afford Some Debt

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. As with many other companies The Peria Karamalai Tea and Produce Company Limited (NSE:PKTEA) makes use of debt. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Peria Karamalai Tea and Produce

How Much Debt Does Peria Karamalai Tea and Produce Carry?

You can click the graphic below for the historical numbers, but it shows that as of March 2022 Peria Karamalai Tea and Produce had ₹509.9m of debt, an increase on ₹150.3m, over one year. However, it does have ₹30.8m in cash offsetting this, leading to net debt of about ₹479.1m.

How Healthy Is Peria Karamalai Tea and Produce's Balance Sheet?

We can see from the most recent balance sheet that Peria Karamalai Tea and Produce had liabilities of ₹486.3m falling due within a year, and liabilities of ₹133.9m due beyond that. Offsetting this, it had ₹30.8m in cash and ₹843.8m in receivables that were due within 12 months. So it can boast ₹254.3m more liquid assets than total liabilities.

This excess liquidity suggests that Peria Karamalai Tea and Produce is taking a careful approach to debt. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Peria Karamalai Tea and Produce's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

Over 12 months, Peria Karamalai Tea and Produce made a loss at the EBIT level, and saw its revenue drop to ₹420m, which is a fall of 40%. That makes us nervous, to say the least.

Caveat Emptor

While Peria Karamalai Tea and Produce's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost ₹36m at the EBIT level. On a more positive note, the company does have liquid assets, so it has a bit of time to improve its operations before the debt becomes an acute problem. But a profit would do more to inspire us to research the business more closely. This one is a bit too risky for our liking. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Peria Karamalai Tea and Produce is showing 2 warning signs in our investment analysis , and 1 of those is significant...

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.