Is Nien Hsing Textile (TPE:1451) Using Too Much 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 note that Nien Hsing Textile Co., Ltd. (TPE:1451) does have debt on its balance sheet. But is this debt a concern to shareholders?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, 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.

View our latest analysis for Nien Hsing Textile

What Is Nien Hsing Textile's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Nien Hsing Textile had NT$355.8m of debt in September 2020, down from NT$508.8m, one year before. But it also has NT$830.8m in cash to offset that, meaning it has NT$475.0m net cash.

A Look At Nien Hsing Textile's Liabilities

Zooming in on the latest balance sheet data, we can see that Nien Hsing Textile had liabilities of NT$1.22b due within 12 months and liabilities of NT$638.2m due beyond that. Offsetting these obligations, it had cash of NT$830.8m as well as receivables valued at NT$1.92b due within 12 months. So it can boast NT$899.8m more liquid assets than total liabilities.

This excess liquidity suggests that Nien Hsing Textile is taking a careful approach to debt. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Simply put, the fact that Nien Hsing Textile has more cash than debt is arguably a good indication that it can manage its debt safely. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Nien Hsing Textile 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 Nien Hsing Textile had a loss before interest and tax, and actually shrunk its revenue by 20%, to NT$7.1b. That makes us nervous, to say the least.

So How Risky Is Nien Hsing Textile?

By their very nature companies that are losing money are more risky than those with a long history of profitability. And the fact is that over the last twelve months Nien Hsing Textile lost money at the earnings before interest and tax (EBIT) line. Indeed, in that time it burnt through NT$342m of cash and made a loss of NT$479m. With only NT$475.0m on the balance sheet, it would appear that its going to need to raise capital again soon. Even though its balance sheet seems sufficiently liquid, debt always makes us a little nervous if a company doesn't produce free cash flow regularly. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example - Nien Hsing Textile has 1 warning sign we think you should be aware of.

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.

If you’re looking to trade Nien Hsing Textile, open an account with the lowest-cost* platform trusted by professionals, Interactive Brokers. Their clients from over 200 countries and territories trade stocks, options, futures, forex, bonds and funds worldwide from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.