Is Kindred Group (STO:KIND SDB) Using Too Much Debt?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, Kindred Group plc (STO:KIND SDB) does carry debt. 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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.

View our latest analysis for Kindred Group

What Is Kindred Group's Net Debt?

The image below, which you can click on for greater detail, shows that Kindred Group had debt of UK£113.1m at the end of March 2021, a reduction from UK£191.2m over a year. However, it does have UK£364.3m in cash offsetting this, leading to net cash of UK£251.2m.

How Strong Is Kindred Group's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Kindred Group had liabilities of UK£415.3m due within 12 months and liabilities of UK£164.9m due beyond that. On the other hand, it had cash of UK£364.3m and UK£147.7m worth of receivables due within a year. So it has liabilities totalling UK£68.2m more than its cash and near-term receivables, combined.

Of course, Kindred Group has a market capitalization of UK£2.64b, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. While it does have liabilities worth noting, Kindred Group also has more cash than debt, so we're pretty confident it can manage its debt safely.

Better yet, Kindred Group grew its EBIT by 231% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately the future profitability of the business will decide if Kindred Group 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Kindred Group 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. Over the last three years, Kindred Group actually produced more free cash flow than EBIT. 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 it is always sensible to look at a company's total liabilities, it is very reassuring that Kindred Group has UK£251.2m in net cash. The cherry on top was that in converted 105% of that EBIT to free cash flow, bringing in UK£365m. So we don't think Kindred Group's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 2 warning signs for Kindred Group you should be aware of, and 1 of them makes us a bit uncomfortable.

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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