Champion Building Materials (TPE:1806) Is Making Moderate Use Of Debt

Legendary fund manager Li Lu (who Charlie Munger backed) once said, '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. We note that Champion Building Materials Co., Ltd. (TPE:1806) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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. When we examine debt levels, we first consider both cash and debt levels, together.

Check out our latest analysis for Champion Building Materials

How Much Debt Does Champion Building Materials Carry?

The chart below, which you can click on for greater detail, shows that Champion Building Materials had NT$2.41b in debt in December 2020; about the same as the year before. However, it also had NT$2.32b in cash, and so its net debt is NT$92.4m.

How Strong Is Champion Building Materials' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Champion Building Materials had liabilities of NT$3.04b due within 12 months and liabilities of NT$1.34b due beyond that. Offsetting these obligations, it had cash of NT$2.32b as well as receivables valued at NT$1.10b due within 12 months. So its liabilities total NT$952.3m more than the combination of its cash and short-term receivables.

While this might seem like a lot, it is not so bad since Champion Building Materials has a market capitalization of NT$4.32b, and so it could probably strengthen its balance sheet by raising capital if it needed to. However, it is still worthwhile taking a close look at its ability to pay off debt. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Champion Building Materials will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Champion Building Materials had a loss before interest and tax, and actually shrunk its revenue by 24%, to NT$3.6b. To be frank that doesn't bode well.

Caveat Emptor

While Champion Building Materials's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost NT$341m at the EBIT level. 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. For example, we would not want to see a repeat of last year's loss of NT$403m. So to be blunt we do think it 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. For instance, we've identified 2 warning signs for Champion Building Materials (1 is a bit unpleasant) you should be aware of.

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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