Does Godawari Power & Ispat (NSE:GPIL) Have A Healthy Balance Sheet?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. We can see that Godawari Power & Ispat Limited (NSE:GPIL) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Godawari Power & Ispat

How Much Debt Does Godawari Power & Ispat Carry?

As you can see below, Godawari Power & Ispat had ₹4.29b of debt at September 2022, down from ₹4.69b a year prior. But it also has ₹5.53b in cash to offset that, meaning it has ₹1.24b net cash.

How Strong Is Godawari Power & Ispat's Balance Sheet?

We can see from the most recent balance sheet that Godawari Power & Ispat had liabilities of ₹10.5b falling due within a year, and liabilities of ₹2.14b due beyond that. Offsetting these obligations, it had cash of ₹5.53b as well as receivables valued at ₹2.38b due within 12 months. So it has liabilities totalling ₹4.71b more than its cash and near-term receivables, combined.

Given Godawari Power & Ispat has a market capitalization of ₹52.6b, it's hard to believe these liabilities pose much threat. 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, Godawari Power & Ispat also has more cash than debt, so we're pretty confident it can manage its debt safely.

But the bad news is that Godawari Power & Ispat has seen its EBIT plunge 18% in the last twelve months. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Godawari Power & Ispat will need earnings to service that debt. 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. Godawari Power & Ispat 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. Looking at the most recent three years, Godawari Power & Ispat recorded free cash flow of 47% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing Up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Godawari Power & Ispat has ₹1.24b in net cash. So we are not troubled with Godawari Power & Ispat's debt use. 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. For example Godawari Power & Ispat has 2 warning signs (and 1 which is potentially serious) we think you should know about.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.