Is CVC Technologies (GTSM:4744) A Risky Investment?

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies CVC Technologies Inc. (GTSM:4744) makes use of debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth 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.

See our latest analysis for CVC Technologies

What Is CVC Technologies's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2020 CVC Technologies had debt of NT$686.0m, up from NT$360.1m in one year. But it also has NT$764.8m in cash to offset that, meaning it has NT$78.8m net cash.

How Strong Is CVC Technologies' Balance Sheet?

According to the last reported balance sheet, CVC Technologies had liabilities of NT$456.7m due within 12 months, and liabilities of NT$571.2m due beyond 12 months. Offsetting this, it had NT$764.8m in cash and NT$102.6m in receivables that were due within 12 months. So it has liabilities totalling NT$160.4m more than its cash and near-term receivables, combined.

Since publicly traded CVC Technologies shares are worth a total of NT$1.27b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward. Despite its noteworthy liabilities, CVC Technologies boasts net cash, so it's fair to say it does not have a heavy debt load!

Also good is that CVC Technologies grew its EBIT at 17% over the last year, further increasing its ability to manage debt. The balance sheet is clearly the area to focus on when you are analysing debt. But it is CVC Technologies's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While CVC Technologies 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. Looking at the most recent three years, CVC Technologies recorded free cash flow of 47% of its EBIT, which is weaker than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While CVC Technologies does have more liabilities than liquid assets, it also has net cash of NT$78.8m. And it impressed us with its EBIT growth of 17% over the last year. So we don't think CVC Technologies's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. We've identified 4 warning signs with CVC Technologies (at least 2 which are a bit concerning) , and understanding them should be part of your investment process.

If you're interested in investing in businesses that can grow profits without the burden of debt, then check out this free list of growing businesses that have net cash on the balance sheet.

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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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