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. We can see that Shih Wei Navigation Co., Ltd. (TPE:5608) does use debt in its business. But is this debt a concern to shareholders?
When Is Debt A Problem?
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. 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. 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 think about a company's use of debt, we first look at cash and debt together.
View our latest analysis for Shih Wei Navigation
How Much Debt Does Shih Wei Navigation Carry?
As you can see below, Shih Wei Navigation had NT$17.6b of debt at September 2020, down from NT$19.0b a year prior. Net debt is about the same, since the it doesn't have much cash.
A Look At Shih Wei Navigation's Liabilities
According to the last reported balance sheet, Shih Wei Navigation had liabilities of NT$3.46b due within 12 months, and liabilities of NT$15.1b due beyond 12 months. Offsetting this, it had NT$275.0m in cash and NT$21.1m in receivables that were due within 12 months. So its liabilities outweigh the sum of its cash and (near-term) receivables by NT$18.3b.
The deficiency here weighs heavily on the NT$3.13b company itself, as if a child were struggling under the weight of an enormous back-pack full of books, his sports gear, and a trumpet. So we'd watch its balance sheet closely, without a doubt. After all, Shih Wei Navigation would likely require a major re-capitalisation if it had to pay its creditors today. When analysing debt levels, the balance sheet is the obvious place to start. But it is Shih Wei Navigation's earnings that will influence how the balance sheet holds up in the future. So when considering debt, it's definitely worth looking at the earnings trend. Click here for an interactive snapshot.
Over 12 months, Shih Wei Navigation made a loss at the EBIT level, and saw its revenue drop to NT$2.9b, which is a fall of 27%. To be frank that doesn't bode well.
Caveat Emptor
Not only did Shih Wei Navigation's revenue slip over the last twelve months, but it also produced negative earnings before interest and tax (EBIT). Its EBIT loss was a whopping NT$636m. If you consider the significant liabilities mentioned above, we are extremely wary of this investment. Of course, it may be able to improve its situation with a bit of luck and good execution. But we think that is unlikely since it is low on liquid assets, and made a loss of NT$907m in the last year. So while it's not wise to assume the company will fail, we do think it's risky. 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. Consider for instance, the ever-present spectre of investment risk. We've identified 2 warning signs with Shih Wei Navigation (at least 1 which shouldn't be ignored) , and understanding them should be part of your investment process.
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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About TWSE:5608
Second-rate dividend payer with imperfect balance sheet.
