These 4 Measures Indicate That Kolte-Patil Developers (NSE:KOLTEPATIL) Is Using Debt Reasonably Well

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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 note that Kolte-Patil Developers Limited (NSE:KOLTEPATIL) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Kolte-Patil Developers

How Much Debt Does Kolte-Patil Developers Carry?

As you can see below, Kolte-Patil Developers had ₹5.42b of debt, at March 2023, which is about the same as the year before. You can click the chart for greater detail. However, it also had ₹3.56b in cash, and so its net debt is ₹1.86b.

How Strong Is Kolte-Patil Developers' Balance Sheet?

According to the last reported balance sheet, Kolte-Patil Developers had liabilities of ₹27.0b due within 12 months, and liabilities of ₹4.67b due beyond 12 months. Offsetting this, it had ₹3.56b in cash and ₹273.4m in receivables that were due within 12 months. So it has liabilities totalling ₹27.8b more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of ₹24.8b, we think shareholders really should watch Kolte-Patil Developers's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Looking at its net debt to EBITDA of 0.84 and interest cover of 5.2 times, it seems to us that Kolte-Patil Developers is probably using debt in a pretty reasonable way. But the interest payments are certainly sufficient to have us thinking about how affordable its debt is. One way Kolte-Patil Developers could vanquish its debt would be if it stops borrowing more but continues to grow EBIT at around 13%, as it did over the last year. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Kolte-Patil Developers can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it's worth checking how much of that EBIT is backed by free cash flow. Over the last three years, Kolte-Patil Developers actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

On our analysis Kolte-Patil Developers's conversion of EBIT to free cash flow should signal that it won't have too much trouble with its debt. However, our other observations weren't so heartening. To be specific, it seems about as good at staying on top of its total liabilities as wet socks are at keeping your feet warm. When we consider all the factors mentioned above, we do feel a bit cautious about Kolte-Patil Developers's use of debt. While we appreciate debt can enhance returns on equity, we'd suggest that shareholders keep close watch on its debt levels, lest they increase. 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. We've identified 1 warning sign with Kolte-Patil Developers , and understanding them should be part of your investment process.

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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