Unimicron Technology (TWSE:3037) Seems To Use Debt Quite Sensibly

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 Unimicron Technology Corp. (TWSE:3037) does use debt in its business. But is this debt a concern to shareholders?

Why Does Debt Bring Risk?

Debt assists a business until the business has trouble paying it off, either with new capital or with free cash flow. 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. Having said that, the most common situation is where a company manages its debt reasonably well - and to its own advantage. When we think about a company's use of debt, we first look at cash and debt together.

Check out our latest analysis for Unimicron Technology

What Is Unimicron Technology's Net Debt?

As you can see below, Unimicron Technology had NT$30.7b of debt at December 2023, down from NT$34.9b a year prior. But it also has NT$52.9b in cash to offset that, meaning it has NT$22.2b net cash.

How Healthy Is Unimicron Technology's Balance Sheet?

The latest balance sheet data shows that Unimicron Technology had liabilities of NT$44.2b due within a year, and liabilities of NT$75.5b falling due after that. Offsetting these obligations, it had cash of NT$52.9b as well as receivables valued at NT$20.9b due within 12 months. So its liabilities total NT$46.0b more than the combination of its cash and short-term receivables.

Since publicly traded Unimicron Technology shares are worth a total of NT$292.6b, it seems unlikely that this level of liabilities would be a major threat. However, we do think it is worth keeping an eye on its balance sheet strength, as it may change over time. Despite its noteworthy liabilities, Unimicron Technology boasts net cash, so it's fair to say it does not have a heavy debt load!

It is just as well that Unimicron Technology's load is not too heavy, because its EBIT was down 77% over the last year. 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 ultimately the future profitability of the business will decide if Unimicron Technology can strengthen its balance sheet over time. So if you want to see what the professionals think, you might find this free report on analyst profit forecasts to be interesting.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. Unimicron Technology 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, Unimicron Technology recorded free cash flow worth a fulsome 92% of its EBIT, which is stronger than we'd usually expect. That positions it well to pay down debt if desirable to do so.

Summing Up

While Unimicron Technology does have more liabilities than liquid assets, it also has net cash of NT$22.2b. The cherry on top was that in converted 92% of that EBIT to free cash flow, bringing in NT$7.6b. So we don't have any problem with Unimicron Technology's use of debt. When analysing debt levels, the balance sheet is the obvious place to start. But ultimately, every company can contain risks that exist outside of the balance sheet. Case in point: We've spotted 3 warning signs for Unimicron Technology you should be aware of.

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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This article by Simply Wall St is general in nature. We provide commentary based on historical data and analyst forecasts only using an unbiased methodology and our articles are not intended to be financial advice. It does not constitute a recommendation to buy or sell any stock, and does not take account of your objectives, or your financial situation. We aim to bring you long-term focused analysis driven by fundamental data. Note that our analysis may not factor in the latest price-sensitive company announcements or qualitative material. Simply Wall St has no position in any stocks mentioned.