We Think Champion Building Materials (TPE:1806) Has A Fair Chunk 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.' 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 can see that Champion Building Materials Co., Ltd. (TPE:1806) does use debt in its business. But the real question is whether this debt is making the company risky.

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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 step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Champion Building Materials

What Is Champion Building Materials's Net Debt?

As you can see below, at the end of September 2020, Champion Building Materials had NT$2.62b of debt, up from NT$2.41b a year ago. Click the image for more detail. However, it also had NT$2.26b in cash, and so its net debt is NT$362.6m.

How Healthy Is Champion Building Materials's Balance Sheet?

According to the last reported balance sheet, Champion Building Materials had liabilities of NT$3.04b due within 12 months, and liabilities of NT$1.34b due beyond 12 months. Offsetting this, it had NT$2.26b in cash and NT$1.03b in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by NT$1.09b.

While this might seem like a lot, it is not so bad since Champion Building Materials has a market capitalization of NT$3.12b, 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. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Champion Building Materials 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 Champion Building Materials had a loss before interest and tax, and actually shrunk its revenue by 18%, to NT$3.9b. That's not what we would hope to see.

Caveat Emptor

Not only did Champion Building Materials's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost a very considerable NT$518m 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. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. For example, we would not want to see a repeat of last year's loss of NT$593m. So to be blunt we do think it is risky. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Consider for instance, the ever-present spectre of investment risk. We've identified 1 warning sign with Champion Building Materials , 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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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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