Is Hanpin Electron (TPE:2488) A Risky Investment?

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. Importantly, Hanpin Electron Co., Ltd. (TPE:2488) does carry debt. But should shareholders be worried about its use of debt?

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. 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 Hanpin Electron

How Much Debt Does Hanpin Electron Carry?

The image below, which you can click on for greater detail, shows that at September 2020 Hanpin Electron had debt of NT$296.0m, up from NT$174.0m in one year. However, it does have NT$1.90b in cash offsetting this, leading to net cash of NT$1.61b.

A Look At Hanpin Electron's Liabilities

We can see from the most recent balance sheet that Hanpin Electron had liabilities of NT$1.03b falling due within a year, and liabilities of NT$285.0m due beyond that. Offsetting these obligations, it had cash of NT$1.90b as well as receivables valued at NT$337.0m due within 12 months. So it can boast NT$925.3m more liquid assets than total liabilities.

This surplus liquidity suggests that Hanpin Electron's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Succinctly put, Hanpin Electron boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Hanpin Electron's load is not too heavy, because its EBIT was down 44% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Hanpin Electron 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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Hanpin Electron may have net cash on the balance sheet, but it is still interesting to look at how well the business converts its earnings before interest and tax (EBIT) to free cash flow, because that will influence both its need for, and its capacity to manage debt. Over the last three years, Hanpin Electron actually produced more free cash flow than EBIT. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Hanpin Electron has net cash of NT$1.61b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of NT$435m, being 106% of its EBIT. So we don't think Hanpin Electron's use of debt is risky. 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. Take risks, for example - Hanpin Electron has 3 warning signs (and 1 which is a bit concerning) we think you should know about.

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.

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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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