These 4 Measures Indicate That Arlitech Electronic (GTSM:6432) Is Using Debt Reasonably Well

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' So it seems the smart money knows that debt - which is usually involved in bankruptcies - is a very important factor, when you assess how risky a company is. Importantly, Arlitech Electronic Corp. (GTSM:6432) does carry debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free 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, debt can be an important tool in businesses, particularly capital heavy businesses. When we examine debt levels, we first consider both cash and debt levels, together.

See our latest analysis for Arlitech Electronic

What Is Arlitech Electronic's Net Debt?

You can click the graphic below for the historical numbers, but it shows that Arlitech Electronic had NT$132.6m of debt in September 2020, down from NT$221.6m, one year before. However, it does have NT$391.7m in cash offsetting this, leading to net cash of NT$259.2m.

How Healthy Is Arlitech Electronic's Balance Sheet?

We can see from the most recent balance sheet that Arlitech Electronic had liabilities of NT$327.3m falling due within a year, and liabilities of NT$73.7m due beyond that. Offsetting these obligations, it had cash of NT$391.7m as well as receivables valued at NT$388.6m due within 12 months. So it can boast NT$379.4m more liquid assets than total liabilities.

This surplus strongly suggests that Arlitech Electronic has a rock-solid balance sheet (and the debt is of no concern whatsoever). On this view, lenders should feel as safe as the beloved of a black-belt karate master. Simply put, the fact that Arlitech Electronic has more cash than debt is arguably a good indication that it can manage its debt safely.

On top of that, Arlitech Electronic grew its EBIT by 85% over the last twelve months, and that growth will make it easier to handle its debt. When analysing debt levels, the balance sheet is the obvious place to start. But it is Arlitech Electronic'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.

Finally, while the tax-man may adore accounting profits, lenders only accept cold hard cash. Arlitech Electronic 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. Considering the last three years, Arlitech Electronic actually recorded a cash outflow, overall. Debt is usually more expensive, and almost always more risky in the hands of a company with negative free cash flow. Shareholders ought to hope for an improvement.

Summing up

While it is always sensible to investigate a company's debt, in this case Arlitech Electronic has NT$259.2m in net cash and a decent-looking balance sheet. And we liked the look of last year's 85% year-on-year EBIT growth. So is Arlitech Electronic's debt a risk? It doesn't seem so to us. There's no doubt that we learn most about debt from the balance sheet. However, not all investment risk resides within the balance sheet - far from it. Be aware that Arlitech Electronic is showing 4 warning signs in our investment analysis , and 1 of those shouldn't be ignored...

When all is said and done, sometimes its easier to focus on companies that don't even need debt. Readers can access a list of growth stocks with zero net debt 100% free, right now.

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