Is Chia Her Industrial (TPE:1449) Using Too Much Debt?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that '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. As with many other companies Chia Her Industrial Co., Ltd. (TPE:1449) makes use of debt. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. 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. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Chia Her Industrial

What Is Chia Her Industrial's Net Debt?

The image below, which you can click on for greater detail, shows that Chia Her Industrial had debt of NT$3.25b at the end of September 2020, a reduction from NT$3.74b over a year. However, because it has a cash reserve of NT$139.3m, its net debt is less, at about NT$3.12b.

How Healthy Is Chia Her Industrial's Balance Sheet?

The latest balance sheet data shows that Chia Her Industrial had liabilities of NT$2.22b due within a year, and liabilities of NT$2.80b falling due after that. Offsetting this, it had NT$139.3m in cash and NT$164.6m in receivables that were due within 12 months. So it has liabilities totalling NT$4.71b more than its cash and near-term receivables, combined.

The deficiency here weighs heavily on the NT$2.00b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we definitely think shareholders need to watch this one closely. After all, Chia Her Industrial would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But it is Chia Her Industrial's earnings that will influence how the balance sheet holds up in the future. 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.

Over 12 months, Chia Her Industrial made a loss at the EBIT level, and saw its revenue drop to NT$2.0b, which is a fall of 20%. To be frank that doesn't bode well.

Caveat Emptor

Not only did Chia Her Industrial'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$249m at the EBIT level. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it burned through NT$674m in negative free cash flow over the last year. That means it's on the risky side of things. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Like risks, for instance. Every company has them, and we've spotted 4 warning signs for Chia Her Industrial (of which 2 are potentially serious!) you should know about.

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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