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 Cayman Tung Ling Co., Limited (GTSM:2924) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?
When Is Debt Dangerous?
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. 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 think about a company’s use of debt, we first look at cash and debt together.
How Much Debt Does Cayman Tung Ling Carry?
The chart below, which you can click on for greater detail, shows that Cayman Tung Ling had NT$189.9m in debt in December 2019; about the same as the year before. However, it does have NT$130.1m in cash offsetting this, leading to net debt of about NT$59.8m.
A Look At Cayman Tung Ling’s Liabilities
The latest balance sheet data shows that Cayman Tung Ling had liabilities of NT$267.7m due within a year, and liabilities of NT$30.7m falling due after that. Offsetting this, it had NT$130.1m in cash and NT$57.8m in receivables that were due within 12 months. So its liabilities total NT$110.4m more than the combination of its cash and short-term receivables.
Of course, Cayman Tung Ling has a market capitalization of NT$792.2m, so these liabilities are probably manageable. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. When analysing debt levels, the balance sheet is the obvious place to start. But you can’t view debt in total isolation; since Cayman Tung Ling 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 Cayman Tung Ling had negative earnings before interest and tax, and actually shrunk its revenue by 19%, to NT$545m. That’s not what we would hope to see.
Not only did Cayman Tung Ling’s revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping NT$88m. 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. Another cause for caution is that is bled NT$12m in negative free cash flow over the last twelve months. So suffice it to say we do consider the stock to be 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. To that end, you should learn about the 4 warning signs we’ve spotted with Cayman Tung Ling (including 1 which is can’t be ignored) .
If, after all that, you’re more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.
If you spot an error that warrants correction, please contact the editor at firstname.lastname@example.org. 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. Simply Wall St has no position in the stocks mentioned.
We aim to bring you long-term focused research analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Thank you for reading.