Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. As with many other companies Actions Technology Co., Ltd. (SHSE:688049) makes use of debt. But is this debt a concern to shareholders?
When Is Debt Dangerous?
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. 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. When we think about a company's use of debt, we first look at cash and debt together.
Check out our latest analysis for Actions Technology
What Is Actions Technology's Debt?
As you can see below, at the end of June 2024, Actions Technology had CN¥54.0m of debt, up from none a year ago. Click the image for more detail. But on the other hand it also has CN¥1.48b in cash, leading to a CN¥1.43b net cash position.
A Look At Actions Technology's Liabilities
Zooming in on the latest balance sheet data, we can see that Actions Technology had liabilities of CN¥132.7m due within 12 months and liabilities of CN¥17.3m due beyond that. On the other hand, it had cash of CN¥1.48b and CN¥76.0m worth of receivables due within a year. So it actually has CN¥1.41b more liquid assets than total liabilities.
This excess liquidity is a great indication that Actions Technology's balance sheet is almost as strong as Fort Knox. Having regard to this fact, we think its balance sheet is as strong as an ox. Simply put, the fact that Actions Technology has more cash than debt is arguably a good indication that it can manage its debt safely.
It was also good to see that despite losing money on the EBIT line last year, Actions Technology turned things around in the last 12 months, delivering and EBIT of CN¥13m. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Actions Technology's ability to maintain a healthy balance sheet going forward. 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. Actions Technology 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 year, Actions Technology 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 it is always sensible to investigate a company's debt, in this case Actions Technology has CN¥1.43b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 780% of that EBIT to free cash flow, bringing in CN¥100m. So we don't think Actions Technology's use of debt is risky. 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 example - Actions Technology has 2 warning signs we think you should be aware of.
At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.
New: Manage All Your Stock Portfolios in One Place
We've created the ultimate portfolio companion for stock investors, and it's free.
• Connect an unlimited number of Portfolios and see your total in one currency
• Be alerted to new Warning Signs or Risks via email or mobile
• Track the Fair Value of your stocks
Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.
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.
About SHSE:688049
Actions Technology
A fabless semiconductor company, designs and produces SoCs for portable multimedia products in China.
Flawless balance sheet with reasonable growth potential.