We Think Chime Ball TechnologyLtd (GTSM:1595) Can Stay On Top Of Its Debt

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. We note that Chime Ball Technology Co.,Ltd. (GTSM:1595) does have debt on its balance sheet. But the real question is whether this debt is making the company risky.

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Chime Ball TechnologyLtd

What Is Chime Ball TechnologyLtd's Net Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Chime Ball TechnologyLtd had NT$968.9m of debt, an increase on NT$786.4m, over one year. However, it does have NT$927.8m in cash offsetting this, leading to net debt of about NT$41.1m.

How Healthy Is Chime Ball TechnologyLtd's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Chime Ball TechnologyLtd had liabilities of NT$1.20b due within 12 months and liabilities of NT$315.2m due beyond that. On the other hand, it had cash of NT$927.8m and NT$680.7m worth of receivables due within a year. 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.

In order to size up a company's debt relative to its earnings, we calculate its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and its earnings before interest and tax (EBIT) divided by its interest expense (its interest cover). The advantage of this approach is that we take into account both the absolute quantum of debt (with net debt to EBITDA) and the actual interest expenses associated with that debt (with its interest cover ratio).

Chime Ball TechnologyLtd's net debt is only 0.23 times its EBITDA. And its EBIT covers its interest expense a whopping 129 times over. So we're pretty relaxed about its super-conservative use of debt. But the other side of the story is that Chime Ball TechnologyLtd saw its EBIT decline by 8.2% over the last year. If earnings continue to decline at that rate the company may have increasing difficulty managing its debt load. 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 Chime Ball TechnologyLtd 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.

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

Chime Ball TechnologyLtd's conversion of EBIT to free cash flow was a real negative on this analysis, although the other factors we considered were considerably better. There's no doubt that its ability to to cover its interest expense with its EBIT is pretty flash. Looking at all this data makes us feel a little cautious about Chime Ball TechnologyLtd's debt levels. 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. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 5 warning signs for Chime Ball TechnologyLtd (2 are potentially serious) you should be aware of.

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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