These 4 Measures Indicate That Kellton Tech Solutions (NSE:KELLTONTEC) Is Using Debt Reasonably Well

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the permanent loss of capital.' 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. As with many other companies Kellton Tech Solutions Limited (NSE:KELLTONTEC) makes use of debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Kellton Tech Solutions

What Is Kellton Tech Solutions's Debt?

You can click the graphic below for the historical numbers, but it shows that Kellton Tech Solutions had ₹1.16b of debt in September 2020, down from ₹1.29b, one year before. However, its balance sheet shows it holds ₹1.36b in cash, so it actually has ₹207.7m net cash.

How Healthy Is Kellton Tech Solutions's Balance Sheet?

We can see from the most recent balance sheet that Kellton Tech Solutions had liabilities of ₹1.72b falling due within a year, and liabilities of ₹799.2m due beyond that. On the other hand, it had cash of ₹1.36b and ₹2.04b worth of receivables due within a year. So it can boast ₹880.2m more liquid assets than total liabilities.

This surplus suggests that Kellton Tech Solutions is using debt in a way that is appears to be both safe and conservative. Due to its strong net asset position, it is not likely to face issues with its lenders. Simply put, the fact that Kellton Tech Solutions has more cash than debt is arguably a good indication that it can manage its debt safely.

But the bad news is that Kellton Tech Solutions has seen its EBIT plunge 18% in the last twelve months. If that rate of decline in earnings continues, the company could find itself in a tight spot. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Kellton Tech Solutions'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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. While Kellton Tech Solutions 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. Looking at the most recent three years, Kellton Tech Solutions recorded free cash flow of 25% 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 investigate a company's debt, in this case Kellton Tech Solutions has ₹207.7m in net cash and a decent-looking balance sheet. So we are not troubled with Kellton Tech Solutions's debt use. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Take risks, for example - Kellton Tech Solutions has 2 warning signs we think you should be aware of.

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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