Is Taiwan Calsonic (GTSM:4523) Using Too Much Debt?

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. Importantly, Taiwan Calsonic Co., Ltd. (GTSM:4523) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. 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. 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 thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Taiwan Calsonic

How Much Debt Does Taiwan Calsonic Carry?

The image below, which you can click on for greater detail, shows that Taiwan Calsonic had debt of NT$347.9m at the end of September 2020, a reduction from NT$416.9m over a year. On the flip side, it has NT$50.3m in cash leading to net debt of about NT$297.6m.

How Healthy Is Taiwan Calsonic's Balance Sheet?

The latest balance sheet data shows that Taiwan Calsonic had liabilities of NT$581.0m due within a year, and liabilities of NT$11.3m falling due after that. Offsetting this, it had NT$50.3m in cash and NT$177.0m in receivables that were due within 12 months. So its liabilities total NT$365.0m more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Taiwan Calsonic is worth NT$1.82b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Taiwan Calsonic will need earnings to service that debt. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

In the last year Taiwan Calsonic had a loss before interest and tax, and actually shrunk its revenue by 16%, to NT$781m. We would much prefer see growth.

Caveat Emptor

Not only did Taiwan Calsonic's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping NT$248m. When we look at that and recall the liabilities on its balance sheet, relative to cash, it seems unwise to us for the company to have any debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled NT$34m in negative free cash flow over the last twelve months. So to be blunt we think it is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Consider for instance, the ever-present spectre of investment risk. We've identified 4 warning signs with Taiwan Calsonic (at least 2 which make us uncomfortable) , and understanding them should be part of your investment process.

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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