Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett said “volatility is far from risk.” So it seems like smart money knows that debt – which is usually involved in bankruptcies – is a very important factor, when you assess the level of risk of a business. We can see that Coal India Limited (NSE: COALINDIA) uses debt in its activities. But should shareholders be concerned about its use of debt?

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is unable to repay its lenders, then it exists at their mercy. An integral part of capitalism is the process of “creative destruction” where bankrupt companies are ruthlessly liquidated by their bankers. However, a more common (but still costly) situation is where a company has to dilute its shareholders at a cheap share price just to get its debt under control. Of course, debt can be an important tool in businesses, especially capital intensive businesses. When we think of a business’s use of debt, we first look at cash flow and debt together.

See our latest analysis for Coal India

How much debt does Coal India carry?

You can click on the graph below for historical figures, but it shows Coal India had 33.4 billion yen in debt in September 2021, up from 48.1 billion yen a year earlier. But it also has 283.4 billion yen in cash to make up for that, which means it has 250.0 billion yen in net cash.

A look at Coal India’s liabilities

According to the latest published balance sheet, Coal India had liabilities of 498.9 billion yen due within 12 months and liabilities of 748.4 billion yen due beyond 12 months. In return, he had 283.4 billion yen in cash and 248.3 billion yen in receivables due within 12 months. It therefore has liabilities totaling 715.7 billion yen more than its cash and short-term receivables combined.

That’s a mountain of leverage even compared to its gargantuan market cap of 902.5 billion yen. If its lenders asked it to consolidate the balance sheet, shareholders would likely face severe dilution. Despite its notable liabilities, Coal India has a net cash flow, so it is fair to say that it does not have a heavy debt load!

Fortunately, Coal India has increased its EBIT by 8.4% over the past year, which makes this debt even more manageable. The balance sheet is clearly the area to focus on when analyzing debt. But it is future profits, more than anything, that will determine Coal India’s ability to maintain a healthy balance sheet going forward. So if you are focused on the future you can check this out free report showing analysts’ earnings forecasts.

But our last consideration is also important, because a business cannot pay its debts with paper profits; he needs hard cash. Coal India may have net cash on the balance sheet, but it is always interesting to see the extent to which the company converts its earnings before interest and taxes (EBIT) into free cash flow, as this will influence both its needs and its capacity. to manage debt. Over the past three years, Coal India’s free cash flow has been 23% of EBIT, less than we expected. This low cash conversion makes debt management more difficult.

In summary

While Coal India’s balance sheet is not particularly strong, due to total liabilities it is clearly positive to see that it has a net cash position of 250.0 billion yen. On top of that, it has increased its EBIT by 8.4% over the past twelve months. So we have no problem with Coal India’s use of debt. When analyzing debt levels, the balance sheet is the obvious place to start. But at the end of the day, every business can contain risks that exist off the balance sheet. Be aware that Coal India shows 2 warning signs in our investment analysis , you must know…

If, after all of this, you’re more interested in a fast-growing company with a strong balance sheet, take a quick look at our list of cash-flow-growing stocks.

Do you have any feedback on this item? Are you worried about the content? Get in touch with us directly. You can also send an email to the editorial team (at) simplywallst.com.

This Simply Wall St article is general in nature. We provide commentary based on historical data and analyst forecasts using only 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 into account your goals or your financial situation. Our aim is to bring you long-term, targeted analysis based on fundamental data. Note that our analysis may not take into account the latest announcements from price sensitive companies or qualitative documents. Simply Wall St has no position in any of the stocks mentioned.