Is Synnex Technology International (TPE:2347) A Risky Investment?

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.' 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 Synnex Technology International Corporation (TPE:2347) does use debt in its business. But the more important question is: how much risk is that debt creating?

What Risk Does Debt Bring?

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. 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. Of course, the upside of debt is that it often represents cheap capital, especially when it replaces dilution in a company with the ability to reinvest at high rates of return. 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 Synnex Technology International

What Is Synnex Technology International's Net Debt?

As you can see below, at the end of December 2020, Synnex Technology International had NT$56.7b of debt, up from NT$48.1b a year ago. Click the image for more detail. On the flip side, it has NT$15.4b in cash leading to net debt of about NT$41.3b.

A Look At Synnex Technology International's Liabilities

Zooming in on the latest balance sheet data, we can see that Synnex Technology International had liabilities of NT$101.7b due within 12 months and liabilities of NT$1.08b due beyond that. Offsetting this, it had NT$15.4b in cash and NT$70.9b in receivables that were due within 12 months. So its liabilities total NT$16.6b more than the combination of its cash and short-term receivables.

Given Synnex Technology International has a market capitalization of NT$90.2b, it's hard to believe these liabilities pose much threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time.

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.

As it happens Synnex Technology International has a fairly concerning net debt to EBITDA ratio of 5.1 but very strong interest coverage of 34.5. This means that unless the company has access to very cheap debt, that interest expense will likely grow in the future. If Synnex Technology International can keep growing EBIT at last year's rate of 15% over the last year, then it will find its debt load easier to manage. 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 Synnex Technology International 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 company can only pay off debt with cold hard cash, not accounting profits. So it's worth checking how much of that EBIT is backed by free cash flow. Looking at the most recent three years, Synnex Technology International recorded free cash flow of 45% of its EBIT, which is weaker than we'd expect. That's not great, when it comes to paying down debt.

Our View

On our analysis Synnex Technology International's interest cover should signal that it won't have too much trouble with its debt. However, our other observations weren't so heartening. In particular, net debt to EBITDA gives us cold feet. When we consider all the elements mentioned above, it seems to us that Synnex Technology International is managing its debt quite well. Having said that, the load is sufficiently heavy that we would recommend any shareholders keep a close eye on it. There's no doubt that we learn most about debt from the balance sheet. But ultimately, every company can contain risks that exist outside of the balance sheet. Be aware that Synnex Technology International is showing 2 warning signs in our investment analysis , and 1 of those can'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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