Bright LED Electronics (TPE:3031) Has A Rock Solid Balance Sheet

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.' 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 note that Bright LED Electronics Corp. (TPE:3031) does have debt on its balance sheet. But should shareholders be worried about its use of debt?

What Risk Does Debt Bring?

Debt is a tool to help businesses grow, but if a business is incapable of paying off its lenders, then it exists at their mercy. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Bright LED Electronics

What Is Bright LED Electronics's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Bright LED Electronics had NT$60.0m of debt in September 2020, down from NT$64.5m, one year before. However, its balance sheet shows it holds NT$818.0m in cash, so it actually has NT$758.0m net cash.

A Look At Bright LED Electronics's Liabilities

Zooming in on the latest balance sheet data, we can see that Bright LED Electronics had liabilities of NT$482.3m due within 12 months and liabilities of NT$57.6m due beyond that. Offsetting this, it had NT$818.0m in cash and NT$721.2m in receivables that were due within 12 months. So it can boast NT$999.4m more liquid assets than total liabilities.

This surplus liquidity suggests that Bright LED Electronics's balance sheet could take a hit just as well as Homer Simpson's head can take a punch. On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Bright LED Electronics has more cash than debt is arguably a good indication that it can manage its debt safely.

In fact Bright LED Electronics's saving grace is its low debt levels, because its EBIT has tanked 35% in the last twelve months. When a company sees its earnings tank, it can sometimes find its relationships with its lenders turn sour. There's no doubt that we learn most about debt from the balance sheet. But it is Bright LED 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.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. While Bright LED Electronics 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, Bright LED Electronics actually produced more free cash flow than EBIT over the last three years. There's nothing better than incoming cash when it comes to staying in your lenders' good graces.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Bright LED Electronics has net cash of NT$758.0m, as well as more liquid assets than liabilities. The cherry on top was that in converted 309% of that EBIT to free cash flow, bringing in NT$326m. So we don't think Bright LED Electronics's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. Case in point: We've spotted 2 warning signs for Bright LED Electronics you should be aware of.

Of course, if you're the type of investor who prefers buying stocks without the burden of debt, then don't hesitate to discover our exclusive list of net cash growth stocks, today.

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