Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. We can see that New Asia Construction & Development Corp. (TPE:2516) 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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest 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 New Asia Construction & Development
How Much Debt Does New Asia Construction & Development Carry?
You can click the graphic below for the historical numbers, but it shows that New Asia Construction & Development had NT$1.25b of debt in December 2019, down from NT$2.19b, one year before. However, it does have NT$3.36b in cash offsetting this, leading to net cash of NT$2.11b.
How Healthy Is New Asia Construction & Development's Balance Sheet?
The latest balance sheet data shows that New Asia Construction & Development had liabilities of NT$5.12b due within a year, and liabilities of NT$95.0m falling due after that. Offsetting this, it had NT$3.36b in cash and NT$2.36b in receivables that were due within 12 months. So it actually has NT$501.3m more liquid assets than total liabilities.
This excess liquidity is a great indication that New Asia Construction & Development's balance sheet is just as strong as racists are weak. On this basis we think its balance sheet is strong like a sleek panther or even a proud lion. Simply put, the fact that New Asia Construction & Development has more cash than debt is arguably a good indication that it can manage its debt safely. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since New Asia Construction & Development 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 New Asia Construction & Development had negative earnings before interest and tax, and actually shrunk its revenue by 2.0%, to NT$7.3b. We would much prefer see growth.
So How Risky Is New Asia Construction & Development?
While New Asia Construction & Development lost money on an earnings before interest and tax (EBIT) level, it actually booked a paper profit of NT$34m. So when you consider it has net cash, along with the statutory profit, the stock probably isn't as risky as it might seem, at least in the short term. The next few years will be important as the business matures. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 4 warning signs for New Asia Construction & Development that 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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