We Think FOCI Fiber Optic Communications (GTSM:3363) Can Stay On Top Of Its 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.' 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. We can see that FOCI Fiber Optic Communications, Inc. (GTSM:3363) does use debt in its business. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

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. If things get really bad, the lenders can take control of the business. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for FOCI Fiber Optic Communications

How Much Debt Does FOCI Fiber Optic Communications Carry?

As you can see below, FOCI Fiber Optic Communications had NT$60.0m of debt at September 2020, down from NT$98.9m a year prior. However, its balance sheet shows it holds NT$594.1m in cash, so it actually has NT$534.1m net cash.

How Healthy Is FOCI Fiber Optic Communications's Balance Sheet?

We can see from the most recent balance sheet that FOCI Fiber Optic Communications had liabilities of NT$413.2m falling due within a year, and liabilities of NT$101.6m due beyond that. Offsetting this, it had NT$594.1m in cash and NT$455.2m in receivables that were due within 12 months. So it can boast NT$534.6m more liquid assets than total liabilities.

It's good to see that FOCI Fiber Optic Communications has plenty of liquidity on its balance sheet, suggesting conservative management of liabilities. Because it has plenty of assets, it is unlikely to have trouble with its lenders. Succinctly put, FOCI Fiber Optic Communications boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact FOCI Fiber Optic Communications's saving grace is its low debt levels, because its EBIT has tanked 66% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. There's no doubt that we learn most about debt from the balance sheet. But it is FOCI Fiber Optic Communications'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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. FOCI Fiber Optic Communications 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. Over the most recent three years, FOCI Fiber Optic Communications recorded free cash flow worth 63% of its EBIT, which is around normal, given free cash flow excludes interest and tax. This free cash flow puts the company in a good position to pay down debt, when appropriate.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that FOCI Fiber Optic Communications has net cash of NT$534.1m, as well as more liquid assets than liabilities. So we don't have any problem with FOCI Fiber Optic Communications's use of debt. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately, every company can contain risks that exist outside of the balance sheet. To that end, you should be aware of the 3 warning signs we've spotted with FOCI Fiber Optic Communications .

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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