Is Chime Ball TechnologyLtd (GTSM:1595) A Risky Investment?

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 Chime Ball Technology Co.,Ltd. (GTSM:1595) does have debt on its balance sheet. But the more important question is: how much risk is that debt creating?

When Is Debt A Problem?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. Ultimately, if the company can't fulfill its legal obligations to repay debt, shareholders could walk away with nothing. However, a more frequent (but still costly) occurrence is where a company must issue shares at bargain-basement prices, permanently diluting shareholders, just to shore up its balance sheet. 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.

View our latest analysis for Chime Ball TechnologyLtd

How Much Debt Does Chime Ball TechnologyLtd Carry?

As you can see below, at the end of September 2020, Chime Ball TechnologyLtd had NT$968.9m of debt, up from NT$786.4m a year ago. Click the image for more detail. On the flip side, it has NT$927.8m in cash leading to net debt of about NT$41.1m.

A Look At Chime Ball TechnologyLtd's Liabilities

The latest balance sheet data shows that Chime Ball TechnologyLtd had liabilities of NT$1.20b due within a year, and liabilities of NT$315.2m falling due after that. Offsetting this, it had NT$927.8m in cash and NT$680.7m in receivables that were due within 12 months. So it can boast NT$92.4m more liquid assets than total liabilities.

This surplus suggests that Chime Ball TechnologyLtd has a conservative balance sheet, and could probably eliminate its debt without much difficulty.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Chime Ball TechnologyLtd has a low net debt to EBITDA ratio of only 0.23. And its EBIT easily covers its interest expense, being 129 times the size. So you could argue it is no more threatened by its debt than an elephant is by a mouse. But the other side of the story is that Chime Ball TechnologyLtd saw its EBIT decline by 8.2% over the last year. That sort of decline, if sustained, will obviously make debt harder to handle. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Chime Ball TechnologyLtd 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. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. During the last three years, Chime Ball TechnologyLtd burned a lot of cash. While investors are no doubt expecting a reversal of that situation in due course, it clearly does mean its use of debt is more risky.

Our View

Based on what we've seen Chime Ball TechnologyLtd is not finding it easy, given its conversion of EBIT to free cash flow, but the other factors we considered give us cause to be optimistic. There's no doubt that its ability to to cover its interest expense with its EBIT is pretty flash. When we consider all the factors mentioned above, we do feel a bit cautious about Chime Ball TechnologyLtd's use of debt. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 5 warning signs for Chime Ball TechnologyLtd you should be aware of, and 2 of them are potentially serious.

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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