AVY Precision Technology (GTSM:5392) Seems To Use Debt Quite Sensibly

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. Importantly, AVY Precision Technology INC. (GTSM:5392) does carry debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. 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. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first thing to do when considering how much debt a business uses is to look at its cash and debt together.

See our latest analysis for AVY Precision Technology

What Is AVY Precision Technology's Net Debt?

The image below, which you can click on for greater detail, shows that at September 2020 AVY Precision Technology had debt of NT$4.41b, up from NT$4.15b in one year. However, it does have NT$4.95b in cash offsetting this, leading to net cash of NT$543.8m.

A Look At AVY Precision Technology's Liabilities

We can see from the most recent balance sheet that AVY Precision Technology had liabilities of NT$6.58b falling due within a year, and liabilities of NT$1.68b due beyond that. On the other hand, it had cash of NT$4.95b and NT$2.38b worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by NT$927.0m.

Since publicly traded AVY Precision Technology shares are worth a total of NT$4.64b, 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. Despite its noteworthy liabilities, AVY Precision Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

The modesty of its debt load may become crucial for AVY Precision Technology if management cannot prevent a repeat of the 78% cut to EBIT over the last year. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. The balance sheet is clearly the area to focus on when you are analysing debt. But it is AVY Precision Technology's earnings that will influence how the balance sheet holds up in the future. So if you're keen to discover more about its earnings, it might be worth checking out this graph of its long term earnings trend.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. While AVY Precision Technology has net cash on its balance sheet, it's still worth taking a look at its ability to convert earnings before interest and tax (EBIT) to free cash flow, to help us understand how quickly it is building (or eroding) that cash balance. Over the last three years, AVY Precision Technology actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While AVY Precision Technology does have more liabilities than liquid assets, it also has net cash of NT$543.8m. And it impressed us with free cash flow of NT$400m, being 176% of its EBIT. So we are not troubled with AVY Precision Technology's debt use. 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. For example, we've discovered 2 warning signs for AVY Precision Technology that you should be aware of before investing here.

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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