Is Kanoria Chemicals & Industries (NSE:KANORICHEM) Using Debt In A Risky Way?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. We can see that Kanoria Chemicals & Industries Limited (NSE:KANORICHEM) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. 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 Kanoria Chemicals & Industries

How Much Debt Does Kanoria Chemicals & Industries Carry?

The image below, which you can click on for greater detail, shows that at September 2020 Kanoria Chemicals & Industries had debt of ₹4.80b, up from ₹4.60b in one year. On the flip side, it has ₹305.7m in cash leading to net debt of about ₹4.50b.

How Healthy Is Kanoria Chemicals & Industries's Balance Sheet?

The latest balance sheet data shows that Kanoria Chemicals & Industries had liabilities of ₹3.57b due within a year, and liabilities of ₹3.82b falling due after that. On the other hand, it had cash of ₹305.7m and ₹1.28b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹5.81b.

The deficiency here weighs heavily on the ₹2.11b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. At the end of the day, Kanoria Chemicals & Industries would probably need a major re-capitalization if its creditors were to demand repayment. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Kanoria Chemicals & 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.

Over 12 months, Kanoria Chemicals & Industries made a loss at the EBIT level, and saw its revenue drop to ₹8.8b, which is a fall of 15%. That's not what we would hope to see.

Caveat Emptor

While Kanoria Chemicals & Industries'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 a very considerable ₹269m at the EBIT level. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. That said, it is possible that the company will turn its fortunes around. Nevertheless, we would not bet on it given that it vaporized ₹75m in cash over the last twelve months, and it doesn't have much by way of liquid assets. So we consider this a high risk stock and we wouldn't be at all surprised if the company asks shareholders for money before long. 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. For example, we've discovered 4 warning signs for Kanoria Chemicals & Industries (2 shouldn't be ignored!) that you should be aware of before investing here.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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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