Tech Mahindra (NSE:TECHM) Seems To Use Debt Rather Sparingly

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. We note that Tech Mahindra Limited (NSE:TECHM) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out the opportunities and risks within the IN IT industry.

How Much Debt Does Tech Mahindra Carry?

The image below, which you can click on for greater detail, shows that at September 2022 Tech Mahindra had debt of ₹16.8b, up from ₹15.3b in one year. But on the other hand it also has ₹72.5b in cash, leading to a ₹55.7b net cash position.

How Healthy Is Tech Mahindra's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Tech Mahindra had liabilities of ₹139.9b due within 12 months and liabilities of ₹44.2b due beyond that. On the other hand, it had cash of ₹72.5b and ₹124.6b worth of receivables due within a year. So it can boast ₹13.0b more liquid assets than total liabilities.

This state of affairs indicates that Tech Mahindra's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the ₹916.7b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, Tech Mahindra boasts net cash, so it's fair to say it does not have a heavy debt load!

But the other side of the story is that Tech Mahindra saw its EBIT decline by 2.2% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. 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 Tech Mahindra 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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Tech Mahindra 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, Tech Mahindra generated free cash flow amounting to a very robust 100% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing Up

While it is always sensible to investigate a company's debt, in this case Tech Mahindra has ₹55.7b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of ₹43b, being 100% of its EBIT. So is Tech Mahindra's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For instance, we've identified 1 warning sign for Tech Mahindra that you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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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.