Welspun (NSE:WELCORP) Has A Pretty Healthy Balance Sheet

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 seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Welspun Corp Limited (NSE:WELCORP) does carry debt. 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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, plenty of companies use debt to fund growth, without any negative consequences. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Welspun

How Much Debt Does Welspun Carry?

You can click the graphic below for the historical numbers, but it shows that Welspun had ₹3.08b of debt in September 2020, down from ₹11.0b, one year before. But it also has ₹10.2b in cash to offset that, meaning it has ₹7.08b net cash.

How Healthy Is Welspun's Balance Sheet?

According to the last reported balance sheet, Welspun had liabilities of ₹23.6b due within 12 months, and liabilities of ₹6.60b due beyond 12 months. Offsetting this, it had ₹10.2b in cash and ₹6.16b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by ₹13.9b.

This deficit isn't so bad because Welspun is worth ₹33.9b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. While it does have liabilities worth noting, Welspun also has more cash than debt, so we're pretty confident it can manage its debt safely.

The modesty of its debt load may become crucial for Welspun if management cannot prevent a repeat of the 24% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Welspun's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Welspun has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, Welspun actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While Welspun does have more liabilities than liquid assets, it also has net cash of ₹7.08b. And it impressed us with free cash flow of ₹11b, being 107% of its EBIT. So we are not troubled with Welspun's debt use. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. To that end, you should be aware of the 1 warning sign we've spotted with Welspun .

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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