We Think BOE Varitronix (HKG:710) Can Manage Its Debt With Ease

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.' 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. We note that BOE Varitronix Limited (HKG:710) does have debt on its balance sheet. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for BOE Varitronix

What Is BOE Varitronix's Debt?

You can click the graphic below for the historical numbers, but it shows that as of June 2022 BOE Varitronix had HK$46.8m of debt, an increase on none, over one year. But on the other hand it also has HK$2.27b in cash, leading to a HK$2.22b net cash position.

A Look At BOE Varitronix's Liabilities

According to the last reported balance sheet, BOE Varitronix had liabilities of HK$3.03b due within 12 months, and liabilities of HK$23.7m due beyond 12 months. Offsetting these obligations, it had cash of HK$2.27b as well as receivables valued at HK$1.94b due within 12 months. So it can boast HK$1.14b more liquid assets than total liabilities.

This surplus suggests that BOE Varitronix has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Simply put, the fact that BOE Varitronix has more cash than debt is arguably a good indication that it can manage its debt safely.

Even more impressive was the fact that BOE Varitronix grew its EBIT by 210% over twelve months. That boost will make it even easier to pay down debt going forward. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine BOE Varitronix's ability to maintain a healthy balance sheet going forward. 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 BOE Varitronix 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 two years, BOE Varitronix 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 BOE Varitronix has HK$2.22b in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of HK$411m, being 108% of its EBIT. So we don't think BOE Varitronix's use of debt is risky. We'd be very excited to see if BOE Varitronix insiders have been snapping up shares. If you are too, then click on this link right now to take a (free) peek at our list of reported insider transactions.

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.

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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.