BenQ Medical Technology (GTSM:4116) 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 BenQ Medical Technology Corporation (GTSM:4116) makes use of debt. But is this debt a concern to shareholders?

When Is Debt Dangerous?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. 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, debt can be an important tool in businesses, particularly capital heavy businesses. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for BenQ Medical Technology

What Is BenQ Medical Technology's Debt?

As you can see below, at the end of September 2020, BenQ Medical Technology had NT$260.1m of debt, up from NT$130.1m a year ago. Click the image for more detail. However, it does have NT$296.5m in cash offsetting this, leading to net cash of NT$36.3m.

How Strong Is BenQ Medical Technology's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that BenQ Medical Technology had liabilities of NT$415.5m due within 12 months and liabilities of NT$243.8m due beyond that. Offsetting these obligations, it had cash of NT$296.5m as well as receivables valued at NT$198.3m due within 12 months. So it has liabilities totalling NT$164.4m more than its cash and near-term receivables, combined.

Given BenQ Medical Technology has a market capitalization of NT$1.47b, it's hard to believe these liabilities pose much threat. Having said that, it's clear that we should continue to monitor its balance sheet, lest it change for the worse. Despite its noteworthy liabilities, BenQ Medical Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for BenQ Medical Technology if management cannot prevent a repeat of the 23% cut to EBIT over the last year. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since BenQ Medical Technology 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, a company can only pay off debt with cold hard cash, not accounting profits. While BenQ Medical Technology has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. During the last three years, BenQ Medical Technology generated free cash flow amounting to a very robust 82% of its EBIT, more than we'd expect. That positions it well to pay down debt if desirable to do so.

Summing up

While BenQ Medical Technology does have more liabilities than liquid assets, it also has net cash of NT$36.3m. The cherry on top was that in converted 82% of that EBIT to free cash flow, bringing in NT$32m. So we are not troubled with BenQ Medical Technology's debt use. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should learn about the 4 warning signs we've spotted with BenQ Medical Technology (including 1 which makes us a bit uncomfortable) .

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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