Lion Travel Service (TWSE:2731) Seems To Use Debt Quite Sensibly

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. As with many other companies Lion Travel Service Co., Ltd. (TWSE:2731) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Lion Travel Service

What Is Lion Travel Service's Net Debt?

The image below, which you can click on for greater detail, shows that Lion Travel Service had debt of NT$96.3m at the end of December 2023, a reduction from NT$1.43b over a year. However, its balance sheet shows it holds NT$3.69b in cash, so it actually has NT$3.59b net cash.

How Strong Is Lion Travel Service's Balance Sheet?

According to the last reported balance sheet, Lion Travel Service had liabilities of NT$4.61b due within 12 months, and liabilities of NT$1.04b due beyond 12 months. Offsetting this, it had NT$3.69b in cash and NT$698.4m in receivables that were due within 12 months. So it has liabilities totalling NT$1.26b more than its cash and near-term receivables, combined.

Given Lion Travel Service has a market capitalization of NT$14.1b, it's hard to believe these liabilities pose much threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, Lion Travel Service boasts net cash, so it's fair to say it does not have a heavy debt load!

It was also good to see that despite losing money on the EBIT line last year, Lion Travel Service turned things around in the last 12 months, delivering and EBIT of NT$934m. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Lion Travel Service 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. Lion Travel Service 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. Happily for any shareholders, Lion Travel Service actually produced more free cash flow than EBIT over the last year. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing Up

We could understand if investors are concerned about Lion Travel Service's liabilities, but we can be reassured by the fact it has has net cash of NT$3.59b. The cherry on top was that in converted 119% of that EBIT to free cash flow, bringing in NT$1.1b. So we don't think Lion Travel Service's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 3 warning signs for Lion Travel Service (1 is a bit concerning) you should be aware of.

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.

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

This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. 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.