HY Electronic (Cayman) (TPE:6573) Is Carrying A Fair Bit Of Debt

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.' 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 HY Electronic (Cayman) Limited (TPE:6573) does use debt in its business. But is this debt a concern to shareholders?

When Is Debt A Problem?

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. 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 think about a company's use of debt, we first look at cash and debt together.

See our latest analysis for HY Electronic (Cayman)

How Much Debt Does HY Electronic (Cayman) Carry?

The image below, which you can click on for greater detail, shows that HY Electronic (Cayman) had debt of NT$734.2m at the end of September 2020, a reduction from NT$949.9m over a year. However, it also had NT$252.5m in cash, and so its net debt is NT$481.6m.

How Healthy Is HY Electronic (Cayman)'s Balance Sheet?

Zooming in on the latest balance sheet data, we can see that HY Electronic (Cayman) had liabilities of NT$1.28b due within 12 months and liabilities of NT$400.8m due beyond that. Offsetting this, it had NT$252.5m in cash and NT$628.0m in receivables that were due within 12 months. So it has liabilities totalling NT$796.8m more than its cash and near-term receivables, combined.

This is a mountain of leverage relative to its market capitalization of NT$1.19b. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since HY Electronic (Cayman) 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.

In the last year HY Electronic (Cayman) had a loss before interest and tax, and actually shrunk its revenue by 7.1%, to NT$1.6b. We would much prefer see growth.

Caveat Emptor

Over the last twelve months HY Electronic (Cayman) produced an earnings before interest and tax (EBIT) loss. Its EBIT loss was a whopping NT$188m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. So we think its balance sheet is a little strained, though not beyond repair. Another cause for caution is that is bled NT$95m in negative free cash flow over the last twelve months. So suffice it to say we consider the stock very 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. For example, we've discovered 4 warning signs for HY Electronic (Cayman) (2 are potentially serious!) that you should be aware of before investing here.

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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