Is Visual Photonics Epitaxy (TPE:2455) A Risky Investment?

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.' It's only natural to consider a company's balance sheet when you examine how risky it is, since debt is often involved when a business collapses. As with many other companies Visual Photonics Epitaxy Co., Ltd. (TPE:2455) makes use of debt. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

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 common (but still painful) scenario is that it has to raise new equity capital at a low price, thus permanently diluting shareholders. 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 Visual Photonics Epitaxy

What Is Visual Photonics Epitaxy's Net Debt?

As you can see below, Visual Photonics Epitaxy had NT$780.0m of debt at December 2020, down from NT$870.0m a year prior. But on the other hand it also has NT$1.07b in cash, leading to a NT$286.4m net cash position.

How Healthy Is Visual Photonics Epitaxy's Balance Sheet?

We can see from the most recent balance sheet that Visual Photonics Epitaxy had liabilities of NT$1.02b falling due within a year, and liabilities of NT$400.2m due beyond that. Offsetting this, it had NT$1.07b in cash and NT$466.6m in receivables that were due within 12 months. So it actually has NT$116.1m more liquid assets than total liabilities.

Having regard to Visual Photonics Epitaxy's size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the NT$20.7b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that Visual Photonics Epitaxy has more cash than debt is arguably a good indication that it can manage its debt safely.

Fortunately, Visual Photonics Epitaxy grew its EBIT by 5.8% in the last year, making that debt load look even more manageable. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine Visual Photonics Epitaxy's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Visual Photonics Epitaxy 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. In the last three years, Visual Photonics Epitaxy's free cash flow amounted to 42% of its EBIT, less than we'd expect. That weak cash conversion makes it more difficult to handle indebtedness.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Visual Photonics Epitaxy has net cash of NT$286.4m, as well as more liquid assets than liabilities. And it also grew its EBIT by 5.8% over the last year. So we are not troubled with Visual Photonics Epitaxy's debt use. 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 1 warning sign for Visual Photonics Epitaxy that you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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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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