Is Far EasTone Telecommunications (TWSE:4904) A Risky Investment?

Warren Buffett famously said, 'Volatility is far from synonymous with risk.' 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. As with many other companies Far EasTone Telecommunications Co., Ltd. (TWSE:4904) makes use of debt. But the more important question is: how much risk is that debt creating?

Why Does Debt Bring Risk?

Generally speaking, debt only becomes a real problem when a company can't easily pay it off, either by raising capital or with its own cash flow. In the worst case scenario, a company can go bankrupt if it cannot pay its creditors. However, a more usual (but still expensive) situation is where a company must dilute shareholders at a cheap share price simply to get debt under control. Of course, plenty of companies use debt to fund growth, without any negative consequences. The first step when considering a company's debt levels is to consider its cash and debt together.

Check out our latest analysis for Far EasTone Telecommunications

How Much Debt Does Far EasTone Telecommunications Carry?

You can click the graphic below for the historical numbers, but it shows that as of December 2023 Far EasTone Telecommunications had NT$62.0b of debt, an increase on NT$58.6b, over one year. However, it also had NT$6.54b in cash, and so its net debt is NT$55.4b.

How Healthy Is Far EasTone Telecommunications' Balance Sheet?

Zooming in on the latest balance sheet data, we can see that Far EasTone Telecommunications had liabilities of NT$35.8b due within 12 months and liabilities of NT$68.2b due beyond that. Offsetting these obligations, it had cash of NT$6.54b as well as receivables valued at NT$17.0b due within 12 months. So its liabilities total NT$80.5b more than the combination of its cash and short-term receivables.

This deficit isn't so bad because Far EasTone Telecommunications is worth NT$292.8b, and thus could probably raise enough capital to shore up its balance sheet, if the need arose. But it's clear that we should definitely closely examine whether it can manage its debt without dilution.

We use two main ratios to inform us about debt levels relative to earnings. The first is net debt divided by earnings before interest, tax, depreciation, and amortization (EBITDA), while the second is how many times its earnings before interest and tax (EBIT) covers its interest expense (or its interest cover, for short). This way, we consider both the absolute quantum of the debt, as well as the interest rates paid on it.

Far EasTone Telecommunications's net debt to EBITDA ratio of about 2.0 suggests only moderate use of debt. And its commanding EBIT of 22.6 times its interest expense, implies the debt load is as light as a peacock feather. One way Far EasTone Telecommunications could vanquish its debt would be if it stops borrowing more but continues to grow EBIT at around 11%, as it did over the last year. When analysing debt levels, the balance sheet is the obvious place to start. But it is future earnings, more than anything, that will determine Far EasTone Telecommunications'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.

Finally, a company can only pay off debt with cold hard cash, not accounting profits. So we clearly need to look at whether that EBIT is leading to corresponding free cash flow. Happily for any shareholders, Far EasTone Telecommunications actually produced more free cash flow than EBIT over the last three years. That sort of strong cash generation warms our hearts like a puppy in a bumblebee suit.

Our View

Far EasTone Telecommunications's interest cover suggests it can handle its debt as easily as Cristiano Ronaldo could score a goal against an under 14's goalkeeper. And the good news does not stop there, as its conversion of EBIT to free cash flow also supports that impression! Taking all this data into account, it seems to us that Far EasTone Telecommunications takes a pretty sensible approach to debt. While that brings some risk, it can also enhance returns for shareholders. 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. For example, we've discovered 3 warning signs for Far EasTone Telecommunications that you should be aware of before investing here.

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.