Is Gallant Micro. Machining (GTSM:6640) Using Too Much Debt?

Warren Buffett famously said, '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, Gallant Micro. Machining Co., LTD. (GTSM:6640) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. 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.

Check out our latest analysis for Gallant Micro. Machining

How Much Debt Does Gallant Micro. Machining Carry?

The image below, which you can click on for greater detail, shows that at September 2020 Gallant Micro. Machining had debt of NT$470.0m, up from NT$305.6m in one year. But it also has NT$749.2m in cash to offset that, meaning it has NT$279.3m net cash.

A Look At Gallant Micro. Machining's Liabilities

According to the last reported balance sheet, Gallant Micro. Machining had liabilities of NT$742.5m due within 12 months, and liabilities of NT$254.6m due beyond 12 months. Offsetting this, it had NT$749.2m in cash and NT$385.9m in receivables that were due within 12 months. So it actually has NT$138.1m more liquid assets than total liabilities.

This short term liquidity is a sign that Gallant Micro. Machining could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Gallant Micro. Machining has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Gallant Micro. Machining's saving grace is its low debt levels, because its EBIT has tanked 31% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Gallant Micro. Machining 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Gallant Micro. Machining has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Happily for any shareholders, Gallant Micro. Machining actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Summing up

While it is always sensible to investigate a company's debt, in this case Gallant Micro. Machining has NT$279.3m in net cash and a decent-looking balance sheet. And it impressed us with free cash flow of -NT$29m, being 119% of its EBIT. So we are not troubled with Gallant Micro. Machining's debt use. 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. To that end, you should learn about the 6 warning signs we've spotted with Gallant Micro. Machining (including 2 which are a bit unpleasant) .

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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