These 4 Measures Indicate That Creative Sensor (TPE:8249) Is Using Debt Safely

Legendary fund manager Li Lu (who Charlie Munger backed) once said, 'The biggest investment risk is not the volatility of prices, but whether you will suffer a permanent loss of capital.' 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. We can see that Creative Sensor Inc. (TPE:8249) does use debt in its business. But the real question is whether this debt is making the company risky.

Why Does Debt Bring Risk?

Debt and other liabilities become risky for a business when it cannot easily fulfill those obligations, either with free cash flow or by raising capital at an attractive price. If things get really bad, the lenders can take control of the business. 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. By replacing dilution, though, debt can be an extremely good tool for businesses that need capital to invest in growth at high rates of return. When we examine debt levels, we first consider both cash and debt levels, together.

View our latest analysis for Creative Sensor

What Is Creative Sensor's Debt?

As you can see below, at the end of September 2020, Creative Sensor had NT$795.0m of debt, up from none a year ago. Click the image for more detail. However, it does have NT$2.30b in cash offsetting this, leading to net cash of NT$1.51b.

How Strong Is Creative Sensor's Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Creative Sensor had liabilities of NT$1.76b due within 12 months and liabilities of NT$86.9m due beyond that. Offsetting this, it had NT$2.30b in cash and NT$582.3m in receivables that were due within 12 months. So it actually has NT$1.03b more liquid assets than total liabilities.

This excess liquidity is a great indication that Creative Sensor's balance sheet is almost as strong as Fort Knox. With this in mind one could posit that its balance sheet means the company is able to handle some adversity. Succinctly put, Creative Sensor boasts net cash, so it's fair to say it does not have a heavy debt load!

In fact Creative Sensor's saving grace is its low debt levels, because its EBIT has tanked 34% in the last twelve months. When it comes to paying off debt, falling earnings are no more useful than sugary sodas are for your health. When analysing debt levels, the balance sheet is the obvious place to start. But it is Creative Sensor'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. Creative Sensor 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, Creative Sensor actually produced more free cash flow than EBIT. That sort of strong cash conversion gets us as excited as the crowd when the beat drops at a Daft Punk concert.

Summing up

While we empathize with investors who find debt concerning, you should keep in mind that Creative Sensor has net cash of NT$1.51b, as well as more liquid assets than liabilities. The cherry on top was that in converted 164% of that EBIT to free cash flow, bringing in NT$303m. So we don't think Creative Sensor's use of debt is risky. When analysing debt levels, the balance sheet is the obvious place to start. However, not all investment risk resides within the balance sheet - far from it. For example, we've discovered 4 warning signs for Creative Sensor (1 is a bit unpleasant!) that you should be aware of before investing here.

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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