Is TaiSol Electronics (TPE:3338) Using Too Much 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.' When we think about how risky a company is, we always like to look at its use of debt, since debt overload can lead to ruin. We note that TaiSol Electronics Co., Ltd. (TPE:3338) does have debt on its balance sheet. But is this debt a concern to shareholders?

What Risk Does Debt Bring?

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. 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 TaiSol Electronics

What Is TaiSol Electronics's Debt?

As you can see below, at the end of September 2020, TaiSol Electronics had NT$560.0m of debt, up from NT$472.9m a year ago. Click the image for more detail. However, its balance sheet shows it holds NT$573.6m in cash, so it actually has NT$13.7m net cash.

A Look At TaiSol Electronics' Liabilities

Zooming in on the latest balance sheet data, we can see that TaiSol Electronics had liabilities of NT$2.62b due within 12 months and liabilities of NT$401.9m due beyond that. Offsetting these obligations, it had cash of NT$573.6m as well as receivables valued at NT$2.47b due within 12 months. So these liquid assets roughly match the total liabilities.

Having regard to TaiSol Electronics' size, it seems that its liquid assets are well balanced with its total liabilities. So while it's hard to imagine that the NT$5.66b company is struggling for cash, we still think it's worth monitoring its balance sheet. Simply put, the fact that TaiSol Electronics has more cash than debt is arguably a good indication that it can manage its debt safely.

And we also note warmly that TaiSol Electronics grew its EBIT by 13% last year, making its debt load easier to handle. The balance sheet is clearly the area to focus on when you are analysing debt. But it is future earnings, more than anything, that will determine TaiSol Electronics's ability to maintain a healthy balance sheet going forward. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

But our final consideration is also important, because a company cannot pay debt with paper profits; it needs cold hard cash. TaiSol Electronics 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 last three years, TaiSol Electronics reported free cash flow worth 16% of its EBIT, which is really quite low. That limp level of cash conversion undermines its ability to manage and pay down debt.

Summing up

While it is always sensible to investigate a company's debt, in this case TaiSol Electronics has NT$13.7m in net cash and a decent-looking balance sheet. On top of that, it increased its EBIT by 13% in the last twelve months. So we don't have any problem with TaiSol Electronics'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. For instance, we've identified 1 warning sign for TaiSol Electronics 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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