Aten International (TPE:6277) Seems To Use Debt Quite Sensibly

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.' 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 Aten International Co., Ltd (TPE:6277) does use debt in its business. But is this debt a concern to shareholders?

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. 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, 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.

View our latest analysis for Aten International

What Is Aten International's Debt?

As you can see below, at the end of December 2020, Aten International had NT$841.3m of debt, up from NT$741.9m a year ago. Click the image for more detail. But it also has NT$2.88b in cash to offset that, meaning it has NT$2.04b net cash.

How Strong Is Aten International's Balance Sheet?

The latest balance sheet data shows that Aten International had liabilities of NT$2.11b due within a year, and liabilities of NT$531.8m falling due after that. Offsetting these obligations, it had cash of NT$2.88b as well as receivables valued at NT$771.2m due within 12 months. So it can boast NT$1.01b more liquid assets than total liabilities.

This surplus suggests that Aten International has a conservative balance sheet, and could probably eliminate its debt without much difficulty. Succinctly put, Aten International boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Aten International's saving grace is its low debt levels, because its EBIT has tanked 22% in the last twelve months. Falling earnings (if the trend continues) could eventually make even modest debt quite risky. The balance sheet is clearly the area to focus on when you are analysing debt. But ultimately the future profitability of the business will decide if Aten 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, while the tax-man may adore accounting profits, lenders only accept cold hard cash. While Aten International 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. In the last three years, Aten International's free cash flow amounted to 33% of its EBIT, less than we'd expect. That's not great, when it comes to paying down debt.

Summing up

While it is always sensible to investigate a company's debt, in this case Aten International has NT$2.04b in net cash and a decent-looking balance sheet. So we are not troubled with Aten International's debt use. 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. For example Aten International has 2 warning signs (and 1 which is concerning) we think you should know about.

If, after all that, you're more interested in a fast growing company with a rock-solid balance sheet, then check out our list of net cash growth stocks without delay.

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