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. Importantly, Papago Inc. (GTSM:3632) does carry debt. But should shareholders be worried about its use of debt?
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. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. 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, debt can be an important tool in businesses, particularly capital heavy businesses. 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 Papago
What Is Papago's Debt?
As you can see below, at the end of December 2020, Papago had NT$388.8m of debt, up from NT$352.7m a year ago. Click the image for more detail. However, it does have NT$89.7m in cash offsetting this, leading to net debt of about NT$299.0m.
A Look At Papago's Liabilities
We can see from the most recent balance sheet that Papago had liabilities of NT$207.8m falling due within a year, and liabilities of NT$267.5m due beyond that. Offsetting this, it had NT$89.7m in cash and NT$100.0m in receivables that were due within 12 months. So it has liabilities totalling NT$285.5m more than its cash and near-term receivables, combined.
This deficit is considerable relative to its market capitalization of NT$405.2m, so it does suggest shareholders should keep an eye on Papago's use of debt. Should its lenders demand that it shore up the balance sheet, shareholders would likely face severe dilution. There's no doubt that we learn most about debt from the balance sheet. But you can't view debt in total isolation; since Papago 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 Papago had a loss before interest and tax, and actually shrunk its revenue by 35%, to NT$408m. To be frank that doesn't bode well.
Caveat Emptor
While Papago's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Its EBIT loss was a whopping NT$140m. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through NT$62m of cash over the last year. So suffice it to say we consider the stock very risky. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 3 warning signs for Papago you should be aware of, and 2 of them can't be ignored.
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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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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About TPEX:3632
Papago
Develops and sells software and hardware for satellite navigation systems in Taiwan and internationally.
Flawless balance sheet and slightly overvalued.
