These 4 Measures Indicate That Tah Kong Chemical Industrial (GTSM:4706) Is Using Debt Safely

David Iben put it well when he said, 'Volatility is not a risk we care about. What we care about is avoiding the 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 Tah Kong Chemical Industrial Corporation (GTSM:4706) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Tah Kong Chemical Industrial

What Is Tah Kong Chemical Industrial's Debt?

As you can see below, at the end of September 2020, Tah Kong Chemical Industrial had NT$68.4m of debt, up from NT$37.3m a year ago. Click the image for more detail. However, its balance sheet shows it holds NT$609.3m in cash, so it actually has NT$540.9m net cash.

A Look At Tah Kong Chemical Industrial's Liabilities

We can see from the most recent balance sheet that Tah Kong Chemical Industrial had liabilities of NT$217.9m falling due within a year, and liabilities of NT$14.3m due beyond that. Offsetting this, it had NT$609.3m in cash and NT$307.8m in receivables that were due within 12 months. So it actually has NT$684.9m more liquid assets than total liabilities.

This luscious liquidity implies that Tah Kong Chemical Industrial's balance sheet is sturdy like a giant sequoia tree. Having regard to this fact, we think its balance sheet is just as strong as misogynists are weak. Succinctly put, Tah Kong Chemical Industrial 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 Tah Kong Chemical Industrial if management cannot prevent a repeat of the 25% 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. When analysing debt levels, the balance sheet is the obvious place to start. But you can't view debt in total isolation; since Tah Kong Chemical Industrial 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. While Tah Kong Chemical Industrial 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. Happily for any shareholders, Tah Kong Chemical Industrial actually produced more free cash flow than EBIT over the last three years. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Tah Kong Chemical Industrial has net cash of NT$540.9m, as well as more liquid assets than liabilities. The cherry on top was that in converted 144% of that EBIT to free cash flow, bringing in NT$241m. So we don't think Tah Kong Chemical Industrial'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. Be aware that Tah Kong Chemical Industrial is showing 3 warning signs in our investment analysis , and 1 of those doesn't sit too well with us...

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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