Cystech Electronics (GTSM:6651) Has A Rock Solid Balance Sheet

The external fund manager backed by Berkshire Hathaway's Charlie Munger, Li Lu, makes no bones about it when he says 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We can see that Cystech Electronics Corp. (GTSM:6651) does use debt in its business. But the real question is whether this debt is making the company risky.

What Risk Does Debt Bring?

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. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

View our latest analysis for Cystech Electronics

What Is Cystech Electronics's Debt?

As you can see below, at the end of September 2020, Cystech Electronics had NT$222.7m of debt, up from NT$200.0m a year ago. Click the image for more detail. However, it does have NT$229.4m in cash offsetting this, leading to net cash of NT$6.63m.

A Look At Cystech Electronics's Liabilities

We can see from the most recent balance sheet that Cystech Electronics had liabilities of NT$404.2m falling due within a year, and liabilities of NT$55.5m due beyond that. Offsetting this, it had NT$229.4m in cash and NT$383.0m in receivables that were due within 12 months. So it can boast NT$152.7m more liquid assets than total liabilities.

This surplus suggests that Cystech Electronics has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Cystech Electronics boasts net cash, so it's fair to say it does not have a heavy debt load!

On top of that, Cystech Electronics grew its EBIT by 77% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is Cystech Electronics's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. Cystech Electronics 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. Over the most recent three years, Cystech Electronics recorded free cash flow worth 68% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This cold hard cash means it can reduce its debt when it wants to.

Summing up

While it is always sensible to investigate a company's debt, in this case Cystech Electronics has NT$6.63m in net cash and a decent-looking balance sheet. And it impressed us with its EBIT growth of 77% over the last year. So we don't think Cystech Electronics's use of debt is risky. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Consider for instance, the ever-present spectre of investment risk. We've identified 2 warning signs with Cystech Electronics , and understanding them should be part of your investment process.

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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