Does Formosa Chemicals & Fibre (TPE:1326) Have A Healthy Balance Sheet?

Some say volatility, rather than debt, is the best way to think about risk as an investor, but Warren Buffett famously said that 'Volatility is far from synonymous with risk.' 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. We can see that Formosa Chemicals & Fibre Corporation (TPE:1326) does use debt in its business. But the real question is whether this debt is making the company risky.

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. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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.

View our latest analysis for Formosa Chemicals & Fibre

How Much Debt Does Formosa Chemicals & Fibre Carry?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Formosa Chemicals & Fibre had NT$105.8b of debt, an increase on NT$98.6b, over one year. But it also has NT$106.5b in cash to offset that, meaning it has NT$689.1m net cash.

A Look At Formosa Chemicals & Fibre's Liabilities

According to the last reported balance sheet, Formosa Chemicals & Fibre had liabilities of NT$75.9b due within 12 months, and liabilities of NT$66.2b due beyond 12 months. Offsetting this, it had NT$106.5b in cash and NT$38.0b in receivables that were due within 12 months. So its total liabilities are just about perfectly matched by its shorter-term, liquid assets.

Having regard to Formosa Chemicals & Fibre's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the NT$466.2b company is struggling for cash, we still think it's worth monitoring its balance sheet. Succinctly put, Formosa Chemicals & Fibre boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Formosa Chemicals & Fibre's load is not too heavy, because its EBIT was down 61% over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Formosa Chemicals & Fibre can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Formosa Chemicals & Fibre 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, Formosa Chemicals & Fibre 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 Formosa Chemicals & Fibre has net cash of NT$689.1m, as well as more liquid assets than liabilities. And it impressed us with free cash flow of NT$27b, being 167% of its EBIT. So we don't have any problem with Formosa Chemicals & Fibre's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. For example, we've discovered 2 warning signs for Formosa Chemicals & Fibre that you should be aware of before investing here.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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