ATE Energy International (GTSM:6179) Has A Pretty Healthy Balance Sheet

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.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. We note that ATE Energy International Co., Ltd. (GTSM:6179) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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, plenty of companies use debt to fund growth, without any negative consequences. 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 ATE Energy International

What Is ATE Energy International's Debt?

The image below, which you can click on for greater detail, shows that at September 2020 ATE Energy International had debt of NT$2.07b, up from NT$771.6m in one year. However, it also had NT$648.8m in cash, and so its net debt is NT$1.42b.

A Look At ATE Energy International's Liabilities

According to the last reported balance sheet, ATE Energy International had liabilities of NT$2.61b due within 12 months, and liabilities of NT$647.3m due beyond 12 months. Offsetting these obligations, it had cash of NT$648.8m as well as receivables valued at NT$2.64b due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

Having regard to ATE Energy International's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the NT$2.39b company is struggling for cash, we still think it's worth monitoring its balance sheet.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

As it happens ATE Energy International has a fairly concerning net debt to EBITDA ratio of 5.8 but very strong interest coverage of 21.6. So either it has access to very cheap long term debt or that interest expense is going to grow! It is well worth noting that ATE Energy International's EBIT shot up like bamboo after rain, gaining 71% in the last twelve months. That'll make it easier to manage its debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is ATE Energy International's earnings that will influence how the balance sheet holds up in the future. 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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Over the last three years, ATE Energy International saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

We weren't impressed with ATE Energy International's net debt to EBITDA, and its conversion of EBIT to free cash flow made us cautious. But its interest cover was significantly redeeming. Considering this range of data points, we think ATE Energy International is in a good position to manage its debt levels. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. 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. For example, we've discovered 5 warning signs for ATE Energy International (3 are concerning!) that you should be aware of before investing here.

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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This article by Simply Wall St is general in nature. 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.
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