These 4 Measures Indicate That World Precision Machinery (SGX:B49) Is Using Debt Reasonably Well

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. Importantly, World Precision Machinery Limited (SGX:B49) does carry debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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.

See our latest analysis for World Precision Machinery

How Much Debt Does World Precision Machinery Carry?

The image below, which you can click on for greater detail, shows that at June 2023 World Precision Machinery had debt of CN¥150.0m, up from none in one year. But on the other hand it also has CN¥381.9m in cash, leading to a CN¥231.9m net cash position.

A Look At World Precision Machinery's Liabilities

We can see from the most recent balance sheet that World Precision Machinery had liabilities of CN¥989.2m falling due within a year, and liabilities of CN¥21.4m due beyond that. On the other hand, it had cash of CN¥381.9m and CN¥505.3m worth of receivables due within a year. So it has liabilities totalling CN¥123.3m more than its cash and near-term receivables, combined.

Given World Precision Machinery has a market capitalization of CN¥836.2m, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, World Precision Machinery boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that World Precision Machinery's load is not too heavy, because its EBIT was down 28% over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But it is World Precision Machinery's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While World Precision Machinery 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, World Precision Machinery actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

Although World Precision Machinery's balance sheet isn't particularly strong, due to the total liabilities, it is clearly positive to see that it has net cash of CN¥231.9m. And it impressed us with free cash flow of CN¥64m, being 158% of its EBIT. So we don't have any problem with World Precision Machinery's use of debt. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. We've identified 2 warning signs with World Precision Machinery (at least 1 which makes us a bit uncomfortable) , and understanding them should be part of your investment process.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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.