Is DEN Networks (NSE:DEN) Using Too Much Debt?

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 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. As with many other companies DEN Networks Limited (NSE:DEN) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. 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 DEN Networks

How Much Debt Does DEN Networks Carry?

As you can see below, at the end of March 2023, DEN Networks had ₹276.0m of debt, up from none a year ago. Click the image for more detail. However, its balance sheet shows it holds ₹26.9b in cash, so it actually has ₹26.7b net cash.

How Healthy Is DEN Networks' Balance Sheet?

The latest balance sheet data shows that DEN Networks had liabilities of ₹4.32b due within a year, and liabilities of ₹703.0m falling due after that. Offsetting this, it had ₹26.9b in cash and ₹867.3m in receivables that were due within 12 months. So it actually has ₹22.8b more liquid assets than total liabilities.

This surplus liquidity suggests that DEN Networks' balance sheet could take a hit just as well as Homer Simpson's head can take a punch. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Simply put, the fact that DEN Networks has more cash than debt is arguably a good indication that it can manage its debt safely.

It is just as well that DEN Networks's load is not too heavy, because its EBIT was down 59% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since DEN Networks 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. DEN Networks 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. Happily for any shareholders, DEN Networks actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing Up

While we empathize with investors who find debt concerning, the bottom line is that DEN Networks has net cash of ₹26.7b and plenty of liquid assets. The cherry on top was that in converted 131% of that EBIT to free cash flow, bringing in ₹400m. So we don't think DEN Networks's use of debt is risky. Over time, share prices tend to follow earnings per share, so if you're interested in DEN Networks, you may well want to click here to check an interactive graph of its earnings per share history.

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.