These 4 Measures Indicate That Weltrend Semiconductor (TPE:2436) Is Using Debt Reasonably Well

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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We can see that Weltrend Semiconductor, Inc. (TPE:2436) does use debt in its business. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for Weltrend Semiconductor

What Is Weltrend Semiconductor's Debt?

You can click the graphic below for the historical numbers, but it shows that as of September 2020 Weltrend Semiconductor had NT$768.2m of debt, an increase on NT$235.0m, over one year. But on the other hand it also has NT$2.19b in cash, leading to a NT$1.43b net cash position.

How Strong Is Weltrend Semiconductor's Balance Sheet?

The latest balance sheet data shows that Weltrend Semiconductor had liabilities of NT$1.23b due within a year, and liabilities of NT$121.8m falling due after that. Offsetting this, it had NT$2.19b in cash and NT$866.6m in receivables that were due within 12 months. So it actually has NT$1.70b more liquid assets than total liabilities.

This surplus suggests that Weltrend Semiconductor is using debt in a way that is appears to be both safe and conservative. Given it has easily adequate short term liquidity, we don't think it will have any issues with its lenders. Succinctly put, Weltrend Semiconductor boasts net cash, so it's fair to say it does not have a heavy debt load!

But the bad news is that Weltrend Semiconductor has seen its EBIT plunge 18% in the last twelve months. If that rate of decline in earnings continues, the company could find itself in a tight spot. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Weltrend Semiconductor's earnings that will influence how the balance sheet holds up in the future. 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Weltrend Semiconductor 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. In the last three years, Weltrend Semiconductor created free cash flow amounting to 16% of its EBIT, an uninspiring performance. That limp level of cash conversion undermines its ability to manage and pay down debt.

Summing up

While it is always sensible to investigate a company's debt, in this case Weltrend Semiconductor has NT$1.43b in net cash and a decent-looking balance sheet. So we don't have any problem with Weltrend Semiconductor's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Weltrend Semiconductor is showing 3 warning signs in our investment analysis , and 1 of those is concerning...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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