Is Les Enphants (TPE:2911) Using Debt Sensibly?

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.' 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. Importantly, Les Enphants Co., Ltd. (TPE:2911) does carry debt. But the real question is whether this debt is making the company risky.

When Is Debt A Problem?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. Of course, debt can be an important tool in businesses, particularly capital heavy businesses. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Les Enphants

How Much Debt Does Les Enphants Carry?

You can click the graphic below for the historical numbers, but it shows that Les Enphants had NT$849.6m of debt in December 2020, down from NT$955.2m, one year before. However, because it has a cash reserve of NT$283.5m, its net debt is less, at about NT$566.1m.

How Strong Is Les Enphants' Balance Sheet?

We can see from the most recent balance sheet that Les Enphants had liabilities of NT$1.94b falling due within a year, and liabilities of NT$736.4m due beyond that. On the other hand, it had cash of NT$283.5m and NT$499.9m worth of receivables due within a year. So it has liabilities totalling NT$1.89b more than its cash and near-term receivables, combined.

Given this deficit is actually higher than the company's market capitalization of NT$1.40b, we think shareholders really should watch Les Enphants's debt levels, like a parent watching their child ride a bike for the first time. Hypothetically, extremely heavy dilution would be required if the company were forced to pay down its liabilities by raising capital at the current share price. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Les Enphants will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

Over 12 months, Les Enphants made a loss at the EBIT level, and saw its revenue drop to NT$4.0b, which is a fall of 20%. That makes us nervous, to say the least.

Caveat Emptor

Not only did Les Enphants's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping NT$326m. 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. It's fair to say the loss of NT$320m didn't encourage us either; we'd like to see a profit. And until that time we think this is a risky stock. 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. Be aware that Les Enphants is showing 2 warning signs in our investment analysis , and 1 of those is concerning...

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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