Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. We can see that Jung Shing Wire Co., Ltd. (TPE:1617) does use debt in its business. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
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 frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. The first step when considering a company's debt levels is to consider its cash and debt together.
Check out our latest analysis for Jung Shing Wire
What Is Jung Shing Wire's Debt?
The image below, which you can click on for greater detail, shows that at December 2020 Jung Shing Wire had debt of NT$879.8m, up from NT$718.6m in one year. However, it also had NT$821.9m in cash, and so its net debt is NT$57.9m.
How Healthy Is Jung Shing Wire's Balance Sheet?
Zooming in on the latest balance sheet data, we can see that Jung Shing Wire had liabilities of NT$1.01b due within 12 months and liabilities of NT$235.4m due beyond that. On the other hand, it had cash of NT$821.9m and NT$821.2m worth of receivables due within a year. So it can boast NT$399.0m more liquid assets than total liabilities.
This surplus suggests that Jung Shing Wire is using debt in a way that is appears to be both safe and conservative. Due to its strong net asset position, it is not likely to face issues with its lenders.
We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.
Jung Shing Wire's net debt is only 0.22 times its EBITDA. And its EBIT easily covers its interest expense, being 41.4 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. Better yet, Jung Shing Wire grew its EBIT by 106% last year, which is an impressive improvement. If maintained that growth will make the debt even more manageable in the years ahead. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Jung Shing Wire'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.
Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. So we always check how much of that EBIT is translated into free cash flow. During the last three years, Jung Shing Wire produced sturdy free cash flow equating to 74% of its EBIT, about what we'd expect. This cold hard cash means it can reduce its debt when it wants to.
Our View
The good news is that Jung Shing Wire's demonstrated ability to cover its interest expense with its EBIT delights us like a fluffy puppy does a toddler. And that's just the beginning of the good news since its EBIT growth rate is also very heartening. It looks Jung Shing Wire has no trouble standing on its own two feet, and it has no reason to fear its lenders. To our minds it has a healthy happy balance sheet. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Jung Shing Wire is showing 3 warning signs in our investment analysis , and 1 of those can't be ignored...
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. 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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About TWSE:1617
Excellent balance sheet low.
