Here's Why SEMITEC (TYO:6626) Can Manage Its Debt Responsibly

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 SEMITEC Corporation (TYO:6626) makes use of debt. 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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for SEMITEC

What Is SEMITEC's Debt?

You can click the graphic below for the historical numbers, but it shows that SEMITEC had JP¥3.46b of debt in December 2020, down from JP¥3.98b, one year before. However, it does have JP¥4.60b in cash offsetting this, leading to net cash of JP¥1.14b.

A Look At SEMITEC's Liabilities

We can see from the most recent balance sheet that SEMITEC had liabilities of JP¥5.51b falling due within a year, and liabilities of JP¥2.31b due beyond that. Offsetting this, it had JP¥4.60b in cash and JP¥4.34b in receivables that were due within 12 months. So it can boast JP¥1.11b more liquid assets than total liabilities.

This short term liquidity is a sign that SEMITEC could probably pay off its debt with ease, as its balance sheet is far from stretched. Succinctly put, SEMITEC boasts net cash, so it's fair to say it does not have a heavy debt load!

Even more impressive was the fact that SEMITEC grew its EBIT by 129% over twelve months. That boost will make it even easier to pay down debt going forward. 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 SEMITEC 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. While SEMITEC 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 three years, SEMITEC reported free cash flow worth 13% of its EBIT, which is really quite low. For us, cash conversion that low sparks a little paranoia about is ability to extinguish debt.

Summing up

While it is always sensible to investigate a company's debt, in this case SEMITEC has JP¥1.14b in net cash and a decent-looking balance sheet. And we liked the look of last year's 129% year-on-year EBIT growth. So we don't think SEMITEC'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. To that end, you should be aware of the 1 warning sign we've spotted with SEMITEC .

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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