Tecsys (TSE:TCS) Seems To Use Debt Rather Sparingly

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.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We note that Tecsys Inc. (TSE:TCS) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Tecsys

What Is Tecsys's Net Debt?

As you can see below, Tecsys had CA$9.00m of debt at October 2021, down from CA$10.2m a year prior. But it also has CA$38.1m in cash to offset that, meaning it has CA$29.1m net cash.

A Look At Tecsys' Liabilities

According to the last reported balance sheet, Tecsys had liabilities of CA$42.7m due within 12 months, and liabilities of CA$17.1m due beyond 12 months. Offsetting these obligations, it had cash of CA$38.1m as well as receivables valued at CA$30.1m due within 12 months. So it can boast CA$8.45m more liquid assets than total liabilities.

Having regard to Tecsys' size, it seems that its liquid assets are well balanced with its total liabilities. So it's very unlikely that the CA$770.7m company is short on cash, but still worth keeping an eye on the balance sheet. Simply put, the fact that Tecsys has more cash than debt is arguably a good indication that it can manage its debt safely.

Fortunately, Tecsys grew its EBIT by 7.7% in the last year, making that debt load look even more manageable. 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 Tecsys 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, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Tecsys 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. Over the last three years, Tecsys actually produced more free cash flow than EBIT. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Tecsys has net cash of CA$29.1m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of CA$14m, being 142% of its EBIT. So is Tecsys'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. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for Tecsys that you should be aware of.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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.