Is Allied Biotech (GTSM:1780) A Risky Investment?

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Allied Biotech Corporation (GTSM:1780) does carry debt. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. If things get really bad, the lenders can take control of the business. 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. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Allied Biotech

How Much Debt Does Allied Biotech Carry?

You can click the graphic below for the historical numbers, but it shows that as of June 2020 Allied Biotech had NT$808.5m of debt, an increase on NT$499.8m, over one year. But it also has NT$900.6m in cash to offset that, meaning it has NT$92.1m net cash.

A Look At Allied Biotech's Liabilities

According to the last reported balance sheet, Allied Biotech had liabilities of NT$872.8m due within 12 months, and liabilities of NT$149.1m due beyond 12 months. Offsetting these obligations, it had cash of NT$900.6m as well as receivables valued at NT$100.6m due within 12 months. So it has liabilities totalling NT$20.6m more than its cash and near-term receivables, combined.

This state of affairs indicates that Allied Biotech's balance sheet looks quite solid, as its total liabilities are just about equal to its liquid assets. So while it's hard to imagine that the NT$1.61b company is struggling for cash, we still think it's worth monitoring its balance sheet. While it does have liabilities worth noting, Allied Biotech also has more cash than debt, so we're pretty confident it can manage its debt safely.

But the bad news is that Allied Biotech has seen its EBIT plunge 17% in the last twelve months. We think hat kind of performance, if repeated frequently, could well lead to difficulties for the stock. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Allied Biotech 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. Allied Biotech 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. During the last three years, Allied Biotech produced sturdy free cash flow equating to 56% of its EBIT, about what we'd expect. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While it is always sensible to look at a company's total liabilities, it is very reassuring that Allied Biotech has NT$92.1m in net cash. So we don't have any problem with Allied Biotech's use of debt. 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. For example, we've discovered 4 warning signs for Allied Biotech (1 can't be ignored!) 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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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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