Is Argosy Research (GTSM:3217) Using Too Much Debt?

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We can see that Argosy Research Inc. (GTSM:3217) does use debt in its business. But the real question is whether this debt is making the company risky.

When Is Debt Dangerous?

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 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. 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.

View our latest analysis for Argosy Research

What Is Argosy Research's Net Debt?

The chart below, which you can click on for greater detail, shows that Argosy Research had NT$50.0m in debt in September 2020; about the same as the year before. But it also has NT$1.25b in cash to offset that, meaning it has NT$1.20b net cash.

How Strong Is Argosy Research's Balance Sheet?

The latest balance sheet data shows that Argosy Research had liabilities of NT$871.2m due within a year, and liabilities of NT$72.0m falling due after that. Offsetting these obligations, it had cash of NT$1.25b as well as receivables valued at NT$965.8m due within 12 months. So it can boast NT$1.28b more liquid assets than total liabilities.

This short term liquidity is a sign that Argosy Research could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Argosy Research has more cash than debt is arguably a good indication that it can manage its debt safely.

In addition to that, we're happy to report that Argosy Research has boosted its EBIT by 77%, thus reducing the spectre of future debt repayments. There's no doubt that we learn most about debt from the balance sheet. But ultimately the future profitability of the business will decide if Argosy Research can strengthen its balance sheet over time. So if you're focused on the future you can check out this free report showing analyst profit forecasts.

Finally, a business needs free cash flow to pay off debt; accounting profits just don't cut it. Argosy Research 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. During the last three years, Argosy Research generated free cash flow amounting to a very robust 80% of its EBIT, more than we'd expect. That puts it in a very strong position to pay down debt.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Argosy Research has net cash of NT$1.20b, as well as more liquid assets than liabilities. And it impressed us with free cash flow of NT$674m, being 80% of its EBIT. So we don't think Argosy Research'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. For instance, we've identified 2 warning signs for Argosy Research that you should be aware of.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

If you decide to trade Argosy Research, use the lowest-cost* platform that is rated #1 Overall by Barron’s, Interactive Brokers. Trade stocks, options, futures, forex, bonds and funds on 135 markets, all from a single integrated account. Promoted

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.
^*Interactive Brokers Rated Lowest Cost Broker by StockBrokers.com Annual Online Review 2020

Have feedback on this article? Concerned about the content? Get in touch with us directly. Alternatively, email editorial-team (at) simplywallst.com.