Dimerco Express (GTSM:5609) Could Easily Take On More 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.' 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. As with many other companies Dimerco Express Corporation (GTSM:5609) makes use of debt. But should shareholders be worried about its use of debt?

When Is Debt A Problem?

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. 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. 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. When we think about a company's use of debt, we first look at cash and debt together.

View our latest analysis for Dimerco Express

How Much Debt Does Dimerco Express Carry?

As you can see below, at the end of September 2020, Dimerco Express had NT$700.6m of debt, up from NT$622.0m a year ago. Click the image for more detail. However, its balance sheet shows it holds NT$2.65b in cash, so it actually has NT$1.95b net cash.

How Healthy Is Dimerco Express' Balance Sheet?

According to the last reported balance sheet, Dimerco Express had liabilities of NT$3.13b due within 12 months, and liabilities of NT$180.1m due beyond 12 months. Offsetting this, it had NT$2.65b in cash and NT$1.98b in receivables that were due within 12 months. So it actually has NT$1.32b more liquid assets than total liabilities.

This short term liquidity is a sign that Dimerco Express could probably pay off its debt with ease, as its balance sheet is far from stretched. Simply put, the fact that Dimerco Express has more cash than debt is arguably a good indication that it can manage its debt safely.

Better yet, Dimerco Express grew its EBIT by 145% last year, which is an impressive improvement. That boost will make it even easier to pay down debt going forward. The balance sheet is clearly the area to focus on when you are analysing debt. But it is Dimerco Express'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, a company can only pay off debt with cold hard cash, not accounting profits. While Dimerco Express 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. Happily for any shareholders, Dimerco Express 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.

Summing up

While it is always sensible to investigate a company's debt, in this case Dimerco Express has NT$1.95b in net cash and a decent-looking balance sheet. The cherry on top was that in converted 157% of that EBIT to free cash flow, bringing in NT$1.7b. So is Dimerco Express's debt a risk? It doesn't seem so to us. The balance sheet is clearly the area to focus on when you are analysing debt. However, not all investment risk resides within the balance sheet - far from it. For instance, we've identified 1 warning sign for Dimerco Express that you should be aware of.

At the end of the day, it's often better to focus on companies that are free from net debt. You can access our special list of such companies (all with a track record of profit growth). It's free.

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This article by Simply Wall St is general in nature. 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.
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