Would Para Light Electronics (TPE:6226) Be Better Off With Less 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.' 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 can see that Para Light Electronics Co., Ltd. (TPE:6226) does use debt in its business. 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. 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. 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 Para Light Electronics

How Much Debt Does Para Light Electronics Carry?

As you can see below, Para Light Electronics had NT$904.8m of debt, at September 2020, which is about the same as the year before. You can click the chart for greater detail. On the flip side, it has NT$478.7m in cash leading to net debt of about NT$426.0m.

How Strong Is Para Light Electronics' Balance Sheet?

The latest balance sheet data shows that Para Light Electronics had liabilities of NT$778.4m due within a year, and liabilities of NT$516.0m falling due after that. On the other hand, it had cash of NT$478.7m and NT$285.6m worth of receivables due within a year. So its liabilities outweigh the sum of its cash and (near-term) receivables by NT$530.1m.

Para Light Electronics has a market capitalization of NT$1.06b, so it could very likely raise cash to ameliorate its balance sheet, if the need arose. But we definitely want to keep our eyes open to indications that its debt is bringing too much risk. The balance sheet is clearly the area to focus on when you are analysing debt. But you can't view debt in total isolation; since Para Light Electronics will need earnings to service that debt. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.

In the last year Para Light Electronics had a loss before interest and tax, and actually shrunk its revenue by 35%, to NT$779m. That makes us nervous, to say the least.

Caveat Emptor

While Para Light Electronics's falling revenue is about as heartwarming as a wet blanket, arguably its earnings before interest and tax (EBIT) loss is even less appealing. Indeed, it lost NT$62m at the EBIT level. Considering that alongside the liabilities mentioned above does not give us much confidence that company should be using so much debt. Quite frankly we think the balance sheet is far from match-fit, although it could be improved with time. However, it doesn't help that it burned through NT$286m of cash over the last year. So in short it's a really risky stock. 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. To that end, you should learn about the 4 warning signs we've spotted with Para Light Electronics (including 2 which are a bit unpleasant) .

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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