Is Carborundum Universal (NSE:CARBORUNIV) Using Too Much 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.' 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. As with many other companies Carborundum Universal Limited (NSE:CARBORUNIV) makes use of debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. If things get really bad, the lenders can take control of the business. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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.

See our latest analysis for Carborundum Universal

How Much Debt Does Carborundum Universal Carry?

As you can see below, Carborundum Universal had ₹1.40b of debt at September 2023, down from ₹3.82b a year prior. But on the other hand it also has ₹3.65b in cash, leading to a ₹2.25b net cash position.

A Look At Carborundum Universal's Liabilities

We can see from the most recent balance sheet that Carborundum Universal had liabilities of ₹6.81b falling due within a year, and liabilities of ₹1.88b due beyond that. On the other hand, it had cash of ₹3.65b and ₹6.26b worth of receivables due within a year. So it actually has ₹1.21b more liquid assets than total liabilities.

This state of affairs indicates that Carborundum Universal's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the ₹202.2b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Carborundum Universal has more cash than debt is arguably a good indication that it can manage its debt safely.

Also good is that Carborundum Universal grew its EBIT at 19% over the last year, further increasing its ability to manage debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Carborundum Universal can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Carborundum Universal 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. In the last three years, Carborundum Universal's free cash flow amounted to 36% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While we empathize with investors who find debt concerning, you should keep in mind that Carborundum Universal has net cash of ₹2.25b, as well as more liquid assets than liabilities. And it impressed us with its EBIT growth of 19% over the last year. So is Carborundum Universal's debt a risk? It doesn't seem so to us. 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 - Carborundum Universal has 1 warning sign we think 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. 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.