Is Kwang Ming Silk Mill (GTSM:4420) Weighed On By Its Debt Load?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' 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. Importantly, Kwang Ming Silk Mill Co., Ltd. (GTSM:4420) does carry debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. 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. 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.

View our latest analysis for Kwang Ming Silk Mill

What Is Kwang Ming Silk Mill's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2020 Kwang Ming Silk Mill had debt of NT$1.01b, up from NT$451.1m in one year. However, because it has a cash reserve of NT$224.0m, its net debt is less, at about NT$781.4m.

How Healthy Is Kwang Ming Silk Mill's Balance Sheet?

We can see from the most recent balance sheet that Kwang Ming Silk Mill had liabilities of NT$240.1m falling due within a year, and liabilities of NT$1.06b due beyond that. Offsetting these obligations, it had cash of NT$224.0m as well as receivables valued at NT$134.9m due within 12 months. So it has liabilities totalling NT$938.2m more than its cash and near-term receivables, combined.

This deficit is considerable relative to its market capitalization of NT$962.8m, so it does suggest shareholders should keep an eye on Kwang Ming Silk Mill's use of debt. This suggests shareholders would be heavily diluted if the company needed to shore up its balance sheet in a hurry. When analysing debt levels, the balance sheet is the obvious place to start. But it is Kwang Ming Silk Mill'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.

Over 12 months, Kwang Ming Silk Mill made a loss at the EBIT level, and saw its revenue drop to NT$590m, which is a fall of 36%. That makes us nervous, to say the least.

Caveat Emptor

Not only did Kwang Ming Silk Mill's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). To be specific the EBIT loss came in at NT$7.5m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through NT$190m of cash over the last year. So suffice it to say we consider the stock very risky. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. We've identified 3 warning signs with Kwang Ming Silk Mill (at least 1 which shouldn't be ignored) , and understanding them should be part of your investment process.

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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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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