We Think Joinsoon Electronics Manufacturing (GTSM:3322) Can Stay On Top Of Its Debt

Howard Marks put it nicely when he said that, rather than worrying about share price volatility, 'The possibility of permanent loss is the risk I worry about... and every practical investor I know worries about.' So it might be obvious that you need to consider debt, when you think about how risky any given stock is, because too much debt can sink a company. Importantly, Joinsoon Electronics Manufacturing CO., LTD. (GTSM:3322) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. Part and parcel of capitalism is the process of 'creative destruction' where failed businesses are mercilessly liquidated by their bankers. While that is not too common, we often do see indebted companies permanently diluting shareholders because lenders force them to raise capital at a distressed price. 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 Joinsoon Electronics Manufacturing

How Much Debt Does Joinsoon Electronics Manufacturing Carry?

As you can see below, at the end of September 2020, Joinsoon Electronics Manufacturing had NT$557.2m of debt, up from NT$325.2m a year ago. Click the image for more detail. However, it also had NT$524.3m in cash, and so its net debt is NT$32.9m.

How Healthy Is Joinsoon Electronics Manufacturing's Balance Sheet?

According to the last reported balance sheet, Joinsoon Electronics Manufacturing had liabilities of NT$1.19b due within 12 months, and liabilities of NT$259.3m due beyond 12 months. Offsetting these obligations, it had cash of NT$524.3m as well as receivables valued at NT$788.1m due within 12 months. So it has liabilities totalling NT$135.6m more than its cash and near-term receivables, combined.

Since publicly traded Joinsoon Electronics Manufacturing shares are worth a total of NT$1.44b, it seems unlikely that this level of liabilities would be a major threat. But there are sufficient liabilities that we would certainly recommend shareholders continue to monitor the balance sheet, going forward.

We measure a company's debt load relative to its earnings power by looking at its net debt divided by its earnings before interest, tax, depreciation, and amortization (EBITDA) and by calculating how easily its earnings before interest and tax (EBIT) cover its interest expense (interest cover). Thus we consider debt relative to earnings both with and without depreciation and amortization expenses.

Joinsoon Electronics Manufacturing's net debt is only 0.28 times its EBITDA. And its EBIT covers its interest expense a whopping 16.8 times over. So you could argue it is no more threatened by its debt than an elephant is by a mouse. It was also good to see that despite losing money on the EBIT line last year, Joinsoon Electronics Manufacturing turned things around in the last 12 months, delivering and EBIT of NT$53m. There's no doubt that we learn most about debt from the balance sheet. But it is Joinsoon Electronics Manufacturing'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.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. So it is important to check how much of its earnings before interest and tax (EBIT) converts to actual free cash flow. Over the last year, Joinsoon Electronics Manufacturing saw substantial negative free cash flow, in total. While that may be a result of expenditure for growth, it does make the debt far more risky.

Our View

Joinsoon Electronics Manufacturing's conversion of EBIT to free cash flow was a real negative on this analysis, although the other factors we considered were considerably better. In particular, we are dazzled with its interest cover. When we consider all the factors mentioned above, we do feel a bit cautious about Joinsoon Electronics Manufacturing's use of debt. While debt does have its upside in higher potential returns, we think shareholders should definitely consider how debt levels might make the stock more risky. 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 2 warning signs for Joinsoon Electronics Manufacturing 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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