Is Chien Shing Stainless Steel (TPE:2025) Using Debt Sensibly?

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.' 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 can see that Chien Shing Stainless Steel Co., Ltd. (TPE:2025) does use debt in its business. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

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. 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 step when considering a company's debt levels is to consider its cash and debt together.

See our latest analysis for Chien Shing Stainless Steel

What Is Chien Shing Stainless Steel's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of December 2020 Chien Shing Stainless Steel had NT$882.1m of debt, an increase on NT$799.1m, over one year. However, because it has a cash reserve of NT$73.0m, its net debt is less, at about NT$809.1m.

How Strong Is Chien Shing Stainless Steel's Balance Sheet?

We can see from the most recent balance sheet that Chien Shing Stainless Steel had liabilities of NT$872.5m falling due within a year, and liabilities of NT$448.0m due beyond that. Offsetting this, it had NT$73.0m in cash and NT$19.0m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by NT$1.23b.

This deficit casts a shadow over the NT$787.3m company, like a colossus towering over mere mortals. So we'd watch its balance sheet closely, without a doubt. At the end of the day, Chien Shing Stainless Steel would probably need a major re-capitalization if its creditors were to demand repayment. There's no doubt that we learn most about debt from the balance sheet. But it is Chien Shing Stainless Steel'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.

In the last year Chien Shing Stainless Steel had a loss before interest and tax, and actually shrunk its revenue by 30%, to NT$804m. That makes us nervous, to say the least.

Caveat Emptor

Not only did Chien Shing Stainless Steel's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Indeed, it lost a very considerable NT$222m at the EBIT level. When we look at that alongside the significant liabilities, we're not particularly confident about the company. It would need to improve its operations quickly for us to be interested in it. Not least because it had negative free cash flow of NT$223m over the last twelve months. So suffice it to say we consider the stock to be 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. To that end, you should learn about the 3 warning signs we've spotted with Chien Shing Stainless Steel (including 2 which are concerning) .

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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