Persistent Systems (NSE:PERSISTENT) Seems To Use Debt Quite Sensibly

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. As with many other companies Persistent Systems Limited (NSE:PERSISTENT) makes use of debt. 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. 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. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

Check out our latest analysis for Persistent Systems

What Is Persistent Systems's Net Debt?

The image below, which you can click on for greater detail, shows that Persistent Systems had debt of ₹1.93b at the end of June 2024, a reduction from ₹3.69b over a year. But on the other hand it also has ₹10.5b in cash, leading to a ₹8.59b net cash position.

How Strong Is Persistent Systems' Balance Sheet?

The latest balance sheet data shows that Persistent Systems had liabilities of ₹24.9b due within a year, and liabilities of ₹2.11b falling due after that. On the other hand, it had cash of ₹10.5b and ₹28.2b worth of receivables due within a year. So it actually has ₹11.7b more liquid assets than total liabilities.

This state of affairs indicates that Persistent Systems' balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So it's very unlikely that the ₹782.9b company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Persistent Systems has more cash than debt is arguably a good indication that it can manage its debt safely.

Also good is that Persistent Systems grew its EBIT at 15% over the last year, further increasing its ability to manage debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Persistent Systems can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Persistent Systems 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. During the last three years, Persistent Systems produced sturdy free cash flow equating to 52% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.

Summing Up

While it is always sensible to investigate a company's debt, in this case Persistent Systems has ₹8.59b in net cash and a decent-looking balance sheet. And it also grew its EBIT by 15% over the last year. So is Persistent Systems's debt a risk? It doesn't seem so to us. Above most other metrics, we think its important to track how fast earnings per share is growing, if at all. If you've also come to that realization, you're in luck, because today you can view this interactive graph of Persistent Systems's earnings per share history for free.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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.