These 4 measures indicate that KNR Constructions (NSE: KNRCON) uses debt reasonably well
Some say volatility, rather than debt, is the best way to view risk as an investor, but Warren Buffett said “volatility is far from risk.” So it can be obvious that you need to take debt into account, when thinking about the risk of any given stock, because too much debt can sink a business. We notice that KNR Constructions Limited (NSE: KNRCON) has a debt on its balance sheet. But does this debt worry shareholders?
When Is Debt a Problem?
Debt helps a business until the business struggles to repay it, either with new capital or with free cash flow. 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 painful) scenario is that he must raise new equity at low cost, thereby diluting shareholders over the long term. Of course, the advantage of debt is that it often represents cheap capital, especially when it replaces dilution in a business 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 flow and debt together.
What is the debt of KNR Constructions?
As you can see below, KNR Constructions had a debt of 7.29 billion yen in March 2021, up from 8.73 billion yen the previous year. However, it has 4.26 billion yen in cash offsetting this, which leads to net debt of around 3.03 billion yen.
Is KNR Constructions’ balance sheet healthy?
According to the latest published balance sheet, KNR Constructions had liabilities of 12.6 billion yen due within 12 months and liabilities of 7.71 billion yen due beyond 12 months. On the other hand, he had 4.26 billion yen in cash and 3.40 billion yen in receivables within a year. Thus, its liabilities exceed the sum of its cash and (short-term) receivables by 12.6 b.
Of course, KNR Constructions has a market capitalization of 64.0 billion yen, so this liability is probably manageable. But there are enough liabilities that we would certainly recommend that shareholders continue to monitor the balance sheet going forward.
We use two main ratios to inform us about the levels of debt compared to earnings. The first is net debt divided by earnings before interest, taxes, depreciation, and amortization (EBITDA), while the second is the number of times its profit before interest and taxes (EBIT) covers its interest expense (or its coverage of interest, for short). The advantage of this approach is that we take into account both the absolute amount of debt (with net debt versus EBITDA) and the actual interest charges associated with this debt (with its coverage rate). interests).
Looking at its net debt over EBITDA of 0.43 and interest coverage of 3.8 times, it seems to us that KNR Constructions is probably using the debt in a fairly reasonable way. We therefore recommend that you keep a close eye on the impact of financing costs on the business. Note that KNR Constructions’ EBIT jumped like bamboo after the rain, gaining 36% over the past twelve months. This will make it easier to manage your debt. There is no doubt that we learn the most about debt from the balance sheet. But you can’t look at debt in isolation; since KNR Constructions will need income to repay this debt. So, when considering debt, it is really worth looking at the profit trend. Click here for an interactive snapshot.
Finally, while the IRS may love accounting profits, lenders only accept hard cash. We therefore always check how much of this EBIT is converted into free cash flow. Over the past three years, KNR Constructions has recorded a total negative free cash flow. Debt is much riskier for companies with unreliable free cash flow, so shareholders should hope that past spending will produce free cash flow in the future.
Our point of view
KNR Constructions’ EBIT growth rate was a real asset in this analysis, as was its net debt on EBITDA. But the truth is, its conversion from EBIT to free cash flow made our fingernails bite. When we consider all the elements mentioned above, it seems to us that KNR Constructions is managing its debt quite well. But beware: we believe debt levels are high enough to warrant continued monitoring. There is no doubt that we learn the most about debt from the balance sheet. However, not all investment risks lie on the balance sheet – far from it. For example, we have identified 1 warning sign for KNR Constructions of which you should be aware.
At the end of the day, it’s often best to focus on businesses that don’t have net debt. You can access our special list of these companies (all with a history of profit growth). It’s free.
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